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**UNITED STATESSECURITIES AND EXCHANGE COMMISSION**

**WASHINGTON, D.C. 20549**

 

**FORM 10-Q**

 
| **(Mark  One)**                                                |
|----------------------------------------------------------------|
| ** **                                                     |
| **x**                                                          | **QUARTERLY  REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE  ACT OF 1934** |
| ** **                                                     |
| **For the quarterly period ended March 31,  2009**        |
| ** **                                                     |
| **OR**                                                         |
| ** **                                                     |
| **o**                                                          | **TRANSITION  REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE  ACT OF 1934** |
| ** **                                                     |
| **For the transition period from  to    ** |

 

**COMMISSION FILE NUMBER 000-29661**

 

**UTSTARCOM, INC.**

(Exact name of registrant as specified in its charter)

 

| **DELAWARE**                             | ** ** | **52-1782500**                       |
|------------------------------------------|------------|--------------------------------------|
| (State of Incorporation)                 |       | (I.R.S. Employer Identification No.) |
|                                     |       |                                 |
| **1275 HARBOR BAY PARKWAY**              | ** ** | ** **                           |
| **ALAMEDA, CALIFORNIA**                  | ** ** | **94502**                            |
| (Address of principal executive offices) |       | (zip code)                           |

 

Registrant’s telephone number, including areacode: **(510) 864-8800**

 

Indicateby check mark whether the registrant (1) has filed all reports required tobe filed by Section 13 or 15(d) of the Securities Exchange Act of1934 during the preceding 12 months (or for such shorter period that theregistrant was required to file such reports), and (2) has been subject tosuch filing requirements for the past 90 days.  Yes x No o

 

Indicate by check mark whether the registrant hassubmitted electronically and posted on its corporate Web site, if any, everyInteractive Data File required to be submitted and posted pursuant to Rule 405of Regulation S-T during the preceding 12 months (or for such shorter periodthat the registrant was required to submit and post such files).  Yes o      Noo

 

Indicateby check mark whether the registrant is a large accelerated filer, anaccelerated filer, a non-accelerated filer, or a smaller reporting company. Seethe definitions of “large accelerated filer,” “accelerated filer” and “smallerreporting company” in Rule 12b-2 of the Exchange Act. (check one):

 

| Large accelerated filer x                |   | Accelerated filer o         |
|-----------------------------------------------|--------|----------------------------------|
|                                          |   |                             |
| Non-accelerated filer o                  |   | Smaller reporting company o |
| (Do not check if a smaller reporting company) |   |                             |

 

Indicateby check mark whether the registrant is a shell company (as defined in Rule 12b-2of the Exchange Act).  Yes o No x

 

As of April 29,2009 there were 127,916,953 shares of the registrant’s common stockoutstanding, par value $0.00125.

 

 

 

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**TABLE OF CONTENTS**

 
| PART I—FINANCIAL INFORMATION                                                                  | 3  |
|---------------------------------------------------------------------------------------------------------|----|
| ITEM 1—CONDENSED CONSOLIDATED FINANCIAL STATEMENTS  (UNAUDITED)                                    | 3  |
| ITEM 2—MANAGEMENT’S DISCUSSION AND ANALYSIS OF  FINANCIAL CONDITION AND RESULTS OF OPERATIONS | 24 |
| ITEM 3—QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT  MARKET RISKS                                | 39 |
| ITEM  4—CONTROLS AND PROCEDURES                                                                    | 41 |
| PART II—OTHER  INFORMATION                                                                    | 43 |
| ITEM  1—LEGAL PROCEEDINGS                                                                          | 43 |
| ITEM 1A—RISK FACTORS                                                                               | 43 |
| ITEM 2—UNREGISTERED SALES OF EQUITY SECURITIES AND USE  OF PROCEEDS                                | 43 |
| ITEM 3—DEFAULTS UPON SENIOR SECURITIES                                                             | 43 |
| ITEM 4—SUBMISSION OF MATTERS TO A VOTE OF SECURITY  HOLDERS                                        | 44 |
| ITEM  5—OTHER INFORMATION                                                                          | 44 |
| ITEM 6—EXHIBITS                                                                                    | 44 |
| SIGNATURES                                                                                              | 45 |

 

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**PART I—FINANCIAL INFORMATION**

 

**ITEM1—CONDENSED CONSOLIDATED FINANCIAL STATEMENTS**

 

**UTSTARCOM, INC.**

**CONDENSED CONSOLIDATED BALANCE SHEETS(UNAUDITED)**

 
| ** **                                                                                                                                                                       | ** ** | **March 31,**                   | ** ** | **December 31,** | ** ** |
|----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|------------|--------------------------------------|------------|-----------------------|------------|
| ** **                                                                                                                                                                       | ** ** | **2009**                             | ** ** | **2008**              | ** ** |
| ** **                                                                                                                                                                       | ** ** | **(In thousands, except par value)** | ** ** |
| **ASSETS**                                                                                                                                                                       |       |                                 |       |                  |       |
| Current assets:                                                                                                                                                                  |       |                                 |       |                  |       |
| Cash and cash equivalents                                                                                                                                                        |       | $                                    | 299,570    |                  | $          | 309,603 |   |
| Short-term investments                                                                                                                                                           |       | 964                                  |       | 4,262                 |       |
| Accounts receivable, net of allowances for doubtful accounts of  $45,699 and $37,359, respectively                                                                               |       | 88,423                               |       | 149,210               |       |
| Accounts receivable, related parties                                                                                                                                             |       | 6,415                                |       | 9,166                 |       |
| Notes receivable                                                                                                                                                                 |       | 4,666                                |       | 11,120                |       |
| Inventories                                                                                                                                                                      |       | 161,005                              |       | 171,307               |       |
| Deferred costs                                                                                                                                                                   |       | 135,726                              |       | 133,409               |       |
| Prepaids and other current assets                                                                                                                                                |       | 96,268                               |       | 127,675               |       |
| Short-term restricted cash                                                                                                                                                       |       | 17,259                               |       | 16,840                |       |
| Total current assets                                                                                                                                                             |       | 810,296                              |       | 932,592               |       |
| Property, plant and equipment, net                                                                                                                                               |       | 172,122                              |       | 175,287               |       |
| Long-term investments                                                                                                                                                            |       | 12,192                               |       | 17,691                |       |
| Long-term deferred costs                                                                                                                                                         |       | 142,246                              |       | 149,258               |       |
| Long-term deferred tax assets                                                                                                                                                    |       | 13,464                               |       | 13,464                |       |
| Other long-term assets                                                                                                                                                           |       | 23,299                               |       | 22,514                |       |
| Total assets                                                                                                                                                                     |       | $                                    | 1,173,619  |                  | $          | 1,310,806 |   |
| **LIABILITIES AND EQUITY**                                                                                                                                                       |       |                                 |       |                  |       |
| Current liabilities:                                                                                                                                                             |       |                                 |       |                  |       |
| Accounts payable                                                                                                                                                                 |       | $                                    | 102,233    |                  | $          | 176,384 |   |
| Income taxes payable                                                                                                                                                             |       | 10,481                               |       | 7,162                 |       |
| Customer advances                                                                                                                                                                |       | 160,659                              |       | 144,700               |       |
| Deferred revenue                                                                                                                                                                 |       | 123,880                              |       | 117,584               |       |
| Deferred tax liabilities                                                                                                                                                         |       | 11,644                               |       | 11,644                |       |
| Other current liabilities                                                                                                                                                        |       | 154,815                              |       | 163,046               |       |
| Total current liabilities                                                                                                                                                        |       | 563,712                              |       | 620,520               |       |
| Long-term deferred revenue                                                                                                                                                       |       | 196,936                              |       | 210,050               |       |
| Other long-term liabilities                                                                                                                                                      |       | 8,742                                |       | 12,594                |       |
| Total liabilities                                                                                                                                                                |       | 769,390                              |       | 843,164               |       |
| Commitments and contingencies (Note 10)                                                                                                                                     |       |                                 |       |                  |       |
| Equity:                                                                                                                                                                          |       |                                 |       |                  |       |
| UTStarcom, Inc. stockholders’ equity:                                                                                                                                  |       |                                 |       |                  |       |
| Common stock: $0.00125 par value; 750,000 authorized shares; 127,917  and 126,566 shares issued and outstanding at March 31, 2009 and December 31, 2008,  respectively |       | 152                                  |       | 152                   |       |
| Additional paid-in capital                                                                                                                                                       |       | 1,243,219                            |       | 1,239,074             |       |
| Accumulated deficit                                                                                                                                                              |       | (908,919                             | )          | (841,486              | )          |
| Accumulated other comprehensive income                                                                                                                                           |       | 68,970                               |       | 69,094                |       |
| Total UTStarcom, Inc. stockholders’ equity                                                                                                                             |       | 403,422                              |       | 466,834               |       |
| Noncontrolling interests                                                                                                                                                         |       | 807                                  |       | 808                   |       |
| Total equity                                                                                                                                                                     |       | 404,229                              |       | 467,642               |       |
| Total liabilities and equity                                                                                                                                                     |       | $                                    | 1,173,619  |                  | $          | 1,310,806 |   |

 

See accompanying notes to the condensed consolidated financialstatements.

 

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**UTSTARCOM, INC.**

**CONDENSED CONSOLIDATED STATEMENTS OFOPERATIONS (UNAUDITED)**

 
| ** **                                                                  | ** ** | **Three months ended March 31,**     | ** ** |
|-----------------------------------------------------------------------------|------------|-------------------------------------------|------------|
| ** **                                                                  | ** ** | **2009**                                  | ** ** | **2008** | ** ** |
| ** **                                                                  | ** ** | **(In thousands, except per share data)** | ** ** |
| Net sales                                                                   | ** ** | ** **                                | ** ** | ** ** | ** ** |
| Third party                                                                 |       | $                                         | 113,175    |   | $ | 574,195 |   |
| Related party                                                               |       | 6,165                                     |       | 11,794 |   |
|                                                                        |       | 119,340                                   |       | 585,989 |   |
| Cost of net sales                                                           |       |                                      |       |   |   |
| Third party                                                                 |       | 93,771                                    |       | 487,153 |   |
| Related party                                                               |       | 3,917                                     |       | 6,757 |   |
| Gross profit                                                                |       | 21,652                                    |       | 92,079 |   |
| Operating expenses:                                                         |       |                                      |       |   |   |
| Selling, general and administrative                                         |       | 54,180                                    |       | 79,744 |   |
| Research and development                                                    |       | 21,508                                    |       | 41,400 |   |
| Amortization of intangible assets                                           |       | —                                    |       | 1,824 |   |
| Restructuring                                                               |       | 4,819                                     |       | — |   |
| Total net operating expenses                                                |       | 80,507                                    |       | 122,968 |   |
|                                                                        |       |                                      |       |   |   |
| Operating loss                                                              |       | (58,855                                   | )          | (30,889 | ) |
|                                                                        |       |                                      |       |   |   |
| Interest income                                                             |       | 749                                       |       | 2,817 |   |
| Interest expense                                                            |       | (290                                      | )          | (6,071 | ) |
| Other (expense) income, net                                                 |       | (7,214                                    | )          | 53,970 |   |
|                                                                        |       |                                      |       |   |   |
| (Loss) income before income taxes                                           |       | (65,610                                   | )          | 19,827 |   |
| Income tax (expense) benefit                                                |       | (1,824                                    | )          | 5,020 |   |
| Net (loss) income                                                           |       | (67,434                                   | )          | 24,847 |   |
| Net loss attributable to noncontrolling interests                           |       | 1                                         |       | 510 |   |
| Net (loss) income attributable to UTStarcom, Inc.                      |       | $                                         | (67,433    | ) | $ | 25,357 |   |
|                                                                        |       |                                      |       |   |   |
| Net (loss) income per share attributable to UTStarcom, Inc. -  Basic   |       | $                                         | (0.54      | ) | $ | 0.21 |   |
| Net (loss) income per share attributable to UTStarcom, Inc. -  Diluted |       | $                                         | (0.54      | ) | $ | 0.21 |   |
|                                                                        |       |                                      |       |   |   |
| Weighted average shares used in per-share calculation:                      |       |                                      |       |   |   |
| - Basic                                                                     |       | 125,731                                   |       | 122,096 |   |
| - Diluted                                                                   |       | 125,731                                   |       | 123,098 |   |

 

See accompanying notes to the condensed consolidated financialstatements.

 

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**UTSTARCOM, INC.**

**CONDENSED CONSOLIDATED STATEMENTS OFCASH FLOWS (UNAUDITED)**

 
| ** **                                                                                          | ** ** | **Three months ended March 31,** | ** ** |
|-----------------------------------------------------------------------------------------------------|------------|---------------------------------------|------------|
| ** **                                                                                          | ** ** | **2009**                              | ** ** | **2008** | ** ** |
| ** **                                                                                          | ** ** | **(In thousands)**                    | ** ** |
| CASH FLOWS FROM OPERATING ACTIVITIES:                                                               |       |                                  |       |   |   |
| Net (loss) income                                                                                   |       | $                                     | (67,434    | ) | $ | 24,847 |   |
| Adjustments to reconcile net (loss) income to net cash provided by  (used in) operating activities: |       |                                  |       |   |   |
| Depreciation and amortization                                                                       |       | 3,512                                 |       | 10,112 |   |
| Gain on sale of investments and liquidation of ownership interest in  a variable interest entity    |       | —                                |       | (47,848 | ) |
| Stock-based compensation expense                                                                    |       | 4,146                                 |       | 4,795 |   |
| Provision for (recovery of) doubtful accounts                                                       |       | 8,347                                 |       | (680 | ) |
| (Recovery of) provision for deferred costs                                                          |       | (142                                  | )          | 320 |   |
| Deferred income taxes                                                                               |       | (96                                   | )          | (11,708 | ) |
| Other                                                                                               |       | (62                                   | )          | 175 |   |
| Changes in operating assets and liabilities, net of dispositions:                                   |       |                                  |       |   |   |
| Accounts receivable                                                                                 |       | 54,938                                |       | 75,177 |   |
| Inventories and deferred costs                                                                      |       | 8,309                                 |       | 15,678 |   |
| Other assets                                                                                        |       | 38,006                                |       | (19,588 | ) |
| Accounts payable                                                                                    |       | (66,151                               | )          | 60,313 |   |
| Income taxes payable                                                                                |       | 3,441                                 |       | 1,414 |   |
| Customer advances                                                                                   |       | 18,525                                |       | 19,902 |   |
| Deferred revenue                                                                                    |       | (6,191                                | )          | (5,771 | ) |
| Other liabilities                                                                                   |       | (11,155                               | )          | (34,404 | ) |
| Net cash (used in) provided by operating activities                                                 |       | (12,007                               | )          | 92,734 |   |
| CASH FLOWS FROM INVESTING ACTIVITIES:                                                               |       |                                  |       |   |   |
| Additions to property, plant and equipment                                                          |       | (1,055                                | )          | (7,630 | ) |
| Purchase of an investment interest                                                                  |       | —                                |       | (1,949 | ) |
| Proceeds from repayment of loan by a variable interest entity                                       |       | —                                |       | 7,728 |   |
| Change in restricted cash                                                                           |       | 2,068                                 |       | (4,517 | ) |
| Purchase of short-term investments                                                                  |       | (2,055                                | )          | (6,578 | ) |
| Proceeds from sale of short-term investments                                                        |       | 5,341                                 |       | 58,740 |   |
| Other                                                                                               |       | 301                                   |       | 96 |   |
| Net cash provided by investing activities                                                           |       | 4,600                                 |       | 45,890 |   |
| CASH FLOWS FROM FINANCING ACTIVITIES:                                                               |       |                                  |       |   |   |
| Payments on borrowings                                                                              |       | —                                |       | (288,861 | ) |
| Other                                                                                               |       | (163                                  | )          | 2,473 |   |
| Net cash used in financing activities                                                               |       | (163                                  | )          | (286,388 | ) |
| Effect of exchange rate changes on cash and cash equivalents                                        |       | (2,463                                | )          | 8,797 |   |
| Net decrease in cash and cash equivalents                                                           |       | (10,033                               | )          | (138,967 | ) |
| Cash and cash equivalents at beginning of period                                                    |       | 309,603                               |       | 437,449 |   |
| Cash and cash equivalents at end of period                                                          |       | $                                     | 299,570    |   | $ | 298,482 |   |
|                                                                                                |       |                                  |       |   |   |
| Supplemental disclosure of cash flow information:                                                   |       |                                  |       |   |   |
| Non-cash operating activity:                                                                        |       |                                  |       |   |   |
| Accounts receivable transferred to notes receivable                                                 |       | $                                     | 110        |   | $ | 2,984 |   |

 

See accompanying notes to the condensed consolidated financialstatements.

 

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**UTSTARCOM, INC.**

 

**NOTES TO CONDENSED CONSOLIDATEDFINANCIAL STATEMENTS (UNAUDITED)**

 

**NOTE1 - BASIS OF PRESENTATION AND LIQUIDITY**

 

Theaccompanying unaudited condensed consolidated financial statements include theaccounts of UTStarcom, Inc. (“Company”) and its wholly and majority ownedsubsidiaries. All significant intercompany accounts and transactions have beeneliminated in the preparation of the condensed consolidated financialstatements. The noncontrolling interests in consolidated subsidiaries are shownseparately in the condensed consolidated financial statements.

 

Theaccompanying unaudited condensed consolidated financial statements have beenprepared by the Company pursuant to the rules and regulations of theSecurities and Exchange Commission (“SEC”). Certain information and footnotedisclosures normally included in financial statements prepared in accordancewith generally accepted accounting principles in the United States (“GAAP”)have been condensed or omitted pursuant to such rules and regulations.These condensed consolidated financial statements should be read in conjunctionwith the Company’s December 31, 2008 financial statements, including thenotes thereto, and the other information set forth in the Company’s AnnualReport on Form 10-K for the year ended December 31, 2008. Thepreparation of financial statements in conformity with GAAP requires managementto make estimates and assumptions that affect the amounts of assets,liabilities, revenue, costs, expenses and gains and losses not affectingretained earnings that are reported in the consolidated financial statementsand accompanying disclosures.  Actual resultsmay be different.  See the Company’s 2008Annual Report for discussion of the Company’s critical accounting policies andestimates.

 

In theopinion of management, the accompanying unaudited condensed consolidatedfinancial statements reflect all adjustments (consisting of only normal recurringadjustments) considered necessary for a fair statement of the Company’sfinancial condition, the results of its operations and its cash flows for theperiods indicated. The results of operations for the three months ended March 31,2009 are not necessarily indicative of the operating results for the full year.

 

The accompanying condensed consolidated financial statements arepresented on the basis that the Company is a going concern. The going concernassumption contemplates the realization of assets and the satisfaction ofliabilities in the normal course of business.

 

The Company incurred net losses of $150.3 million,$195.6 million and $117.3 million during the years ended December 31,2008, 2007 and 2006, respectively. During the three months ended March 31,2009, the Company recorded a net loss of $67.4 million. The Company recordedoperating losses in 16 of the 17 consecutive quarters in the period ended March 31,2009. At March 31, 2009,  theCompany had an accumulated deficit of $908.9 million. The Company incurrednet cash outflows from operations of $55.2 million and $225.1 millionin 2008 and 2007 respectively. Cash used in operations was $12.0 million duringthe three months ended March 31, 2009. At March 31, 2009, the Company had cash and cash equivalents of$299.6 million in the aggregate to meet the Company’s liquidity requirements ofwhich $192.8 million was held by its subsidiaries in China. China imposescurrency exchange controls on transfers of funds from China.  Going forward, the amount of cash availablefor transfer from the China subsidiaries for use by the Company’s non-Chinasubsidiaries is limited both by the liquidity needs of the subsidiaries inChina and by Chinese-government mandated limitations including currencyexchange controls on transfers of funds outside of China. Managementexpects the Company to continue to incur losses and negative cash flows fromoperations over at least the remainder of 2009.

 

The Company’s only committed sources for borrowings are its credit facilitiesin China. Each borrowing under these facilities is subject to the banks’ thencurrent favorable opinion of the credit worthiness of the Company’s Chinasubsidiaries, the banks having funds available for lending, and other Chinesebanking regulations and practices. As a result, management cannot be certainthat borrowings under these facilities will be adequate, if available at all,to meet the Company’s liquidity requirements. In addition, these creditfacilities expire in the second half of 2009. Upon expiration of thesefacilities, management is not certain that new credit facilities will beavailable on commercially reasonable terms or at all. Even if these facilitiesare renewed upon expiration, based on the Company’s recent financialperformance, the total available credit may be reduced. Accordingly, managementis not certain that borrowings under the Company’s credit facilities in Chinawill be adequate to meet the Company’s financing requirements.

 

In 2008, the Company took a number of actions to improve its liquidity,including divesting the Company’s non-core businesses. In December 2008,management announced further initiatives including efforts to eliminatefunctional duplications by consolidation of a number of functions into theCompany’s China operations. Management believes that these initiatives, ifexecuted successfully, will help achieve significant operating expensereductions by the fourth quarter of 2009 and enable the Company’s fixed costbase to be better aligned with operations, market demand and projected saleslevels, which management expects will increase significantly in the latter halfof 2009 as compared to the first two quarters of 2009. Uncertainties aboutsales levels that may be achieved in 2009 are heightened by recent marketturmoil and the global economic downturn. If the level of sales anticipated bythe Company’s financial plan does not materialize, the Company will need totake further actions to reduce costs and expenses or explore other costreduction options.

 

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Management believes that if the Company is able to achieve projectedsales levels in 2009 and contain expenses and cash used in operations to levelscontemplated in the Company’s 2009 financial plan, both the Company’s China andnon-China operations will have sufficient liquidity to finance working capitaland capital expenditure needs during the next 12 months. If the Company isnot able to execute its 2009 financial plan successfully, the Company may needto obtain funds from equity or debt financings. There can be no assurance thatadditional financing, if required, will be available on terms satisfactory tothe Company or at all, and if funds are raised in the future through issuanceof preferred stock or debt, these securities could have rights, privileges orpreference senior to those of the Company’s common stock and newly issued debtcould contain debt covenants that impose restrictions on the Company’soperations. Further, any sale of newly issued debt or equity securities couldresult in additional dilution to the Company’s current shareholders.

 

Recently, global economies have experienced a significant downturndriven by a financial and credit crisis that will continue to challenge sucheconomies for some period of time. Under the current macroeconomic environmentthere are significant risks and uncertainties inherent in management’s abilityto forecast future results. The operating environment confronting the Company,both internally and externally, raises significant uncertainties. Whileimprovements in the Company’s operating results, cash flows and liquidity areanticipated as the Company’s 2009 financial plan and management’s initiativesto control and reduce costs while maintaining and growing the Company’s revenuebase are fully implemented, the Company’s recurring losses and expectednegative cash flows from operations raise substantial doubt about the Company’sability to continue as a going concern. The condensed consolidated financialstatements do not include any adjustments relating to the recoverability andclassification of recorded assets amounts or the amounts and classification ofliabilities or any other adjustments that may be necessary if the entity isunable to continue as a going concern.

 

**NOTE****2 -RECENT ACCOUNTING PRONOUNCEMENTS**

 

***During the first quarter of fiscalyear 2009, the Company adopted the following accounting standards:***

 

On January 1, 2009,the Company adopted Financial Accounting Standards Board (“FASB Statement No. 141(revised), “Business Combinations” (“SFAS 141(R)”). The standard changesthe accounting for business combinations including the measurement of acquirershares issued in consideration for a business combination, the recognition ofcontingent consideration, the accounting for preacquisition gain and losscontingencies, the recognition of capitalized in-process research anddevelopment, the accounting for acquisition-related restructuring costaccruals, the treatment of acquisition related transaction costs and therecognition of changes in the acquirer’s income tax valuation allowance.SFAS 141(R) applies prospectively to business combinations for whichthe acquisition date is on or after January 1, 2009. The Company didnot consummate any business combination transactions during the three monthsended March 31, 2009.

 

On January 1, 2009,the Company adopted FASB issued Statement No. 161, “Disclosures about Derivative Instruments andHedging Activities” (“SFAS 161”), which amends and expands thedisclosure requirements of FASB Statement No. 133, “Accounting for Derivative Instruments andHedging Activities”  (“SFAS 133”),with the intent to provide users of financial statements with an enhancedunderstanding of:  (a) how and why an entity uses derivativeinstruments; (b) how derivative instruments and related hedged items areaccounted for under SFAS 133 and its related interpretations; and (c) howderivative instruments and related hedged items affect an entity’s financialposition, financial performance and cash flows.  SFAS 161 requiresqualitative disclosures about objectives and strategies for using derivatives,quantitative disclosures about fair value amounts of and gains and losses onderivative instruments and disclosures about credit-risk-related contingentfeatures in derivative instruments.  This statement applies to allentities and all derivative instruments.  There was no impact on theCompany’s financial position or results of operations upon adoption of SFAS161.

 

On January 1, 2009,the Company adopted FASB Staff Position EITF 03-6-1, “Determining WhetherInstruments Granted in Share-Based Payment Transactions Are ParticipatingSecurities” (“FSP EITF 03-6-1”). FSP EITF 03-6-1 provides that unvestedshare-based payment awards that contain non-forfeitable rights to dividends ordividend equivalents (whether paid or unpaid) are participating securities andshall be included in the computation of earnings per share pursuant to thetwo-class method. There was no material impact on the Company’s consolidatedfinancial statements upon adoption of FSP EITF 03-6-1.

 

In December 2007, the FASB issued Statement No. 160, “NoncontrollingInterests in Consolidated Financial Statements, an amendment of ARB No. 51”(“SFAS 160”). The standard changes the accounting for noncontrolling(minority) interests in consolidated financial statements including therequirements to classify noncontrolling interests as a component of consolidatedstockholders’ equity, and the elimination of “minority interest” accounting inresults of operations with earnings attributable to non-controlling interestsreported as part of consolidated earnings. Previously, noncontrolling interestswere recorded within “mezzanine” (or temporary) equity. Additionally,SFAS 160 revises the accounting for both increases and decreases in aparent’s controlling ownership interest. The Company’s adoption ofSFAS 160, effective January 1, 2009, resulted in a $0.8 millionreclassification of noncontrolling minority interests to shareholders’ equityon the condensed consolidated balance sheet as of December 31, 2008.  Minority interest in losses of consolidatedsubsidiaries of $0.5 million for the three months ended March 31, 2008have been reclassified to net income attributable to noncontrolling interestson the condensed consolidated statement of operations to conform to thepresentation requirements of SFAS 160. See Note 5, Comprehensive Loss, foradditional SFAS 160 disclosures regarding the noncontrolling interestcomponents of comprehensive loss.

 

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InSeptember 2006, the Financial Accounting Standards Board (“FASB”) issuedStatement of Financial Accounting Standards No. 157, “Fair ValueMeasurements” (“SFAS 157”). SFAS 157 defines fair value, establishesa framework for measuring fair value in generally accepted accounting principles,and expands disclosures about fair value measurements. The provisions of thisstandard apply to current accounting pronouncements that require or permit fairvalue measurements. Upon adoption, the provisions of SFAS 157 are to beapplied prospectively with limited exceptions. Effective January 1, 2008,the Company adopted the measurement and disclosure requirements ofSFAS 157 as it relates to financial assets and financial liabilitiesmeasured at fair value on a recurring basis. In February 2008, the FASBissued FASB Staff Position No. 157-2, “Effective Date of FASB Statement No. 157”(“FSP 157-2”), which delayed the effective date of SFAS 157 fornon-financial assets and non-financial liabilities except those recorded ordisclosed at fair value on a recurring basis. Effective January 1, 2009,the Company adopted the measurement and disclosure requirements ofSFAS 157 as it relates to non-financial assets and non-financialliabilities measured at fair value on a non-recurring basis. Examples include goodwill,intangibles, and other long-lived assets.The adoption of SFAS No. 157for non-financial assets and non-financial liabilities did not have a materialimpact on the Company’s financial condition or results of operations. Theadditional disclosures required by SFAS 157 are included in Note 7.

 

***Recent Accounting Pronouncements Not Yet Adopted***

 

In April 2009, theFASB issued three Staff Positions (“FSPs”) that are intended to provideadditional application guidance and enhance disclosures about fair valuemeasurements and impairments of securities. FSP FAS 157-4, “Determining Whethera Market is Not Active and a Transaction Is Not Distressed”, provides guidanceon determining fair value when there is no active market or where the priceinputs being used represent distressed sales. FSP FAS 115-2 and FAS 124-2, “Recognitionand Presentation of Other-Than-Temporary Impairments”, changes the method fordetermining when an other-than-temporary impairment exists for debt securitiesand the amount of the impairment to be recorded in earnings. FSP FAS 107-1and APB 28-1, “Interim Disclosures About Fair Value of Financial Instruments”,requires fair value disclosures in both interim as well as annual financialstatements in order to provide more timely information about the effects ofcurrent market conditions on financial instruments. All of these FSPs areeffective for the Company beginning April 1, 2009. The Company does notanticipate the adoption of these standards will have a material impact on itsfinancial condition or results of operations.

 

**NOTE 3—DIVESTITURES**

 

*UTStarcom Personal Communications LLC (PCD)*

 

On July 1, 2008, the Company completed the sale of UTStarcomPersonal Communications LLC, a wholly-owned subsidiary of the Company (“PCD”),to Personal Communications Devices, LLC (“PCD LLC”). The Company alsoinvested $1.6 million in equity securities representing approximately a2.5% interest in PCD LLC. The Company recorded a $3.8 million gain onsale of PCD net assets during 2008. Pursuant to the terms of the divestitureagreement, the Company may be entitled to receive up to an additional$50 million earnout payment in 2011 based on the achievement of cumulativeearnings levels of PCD LLC through December 31, 2010. Previously, PCDwas a reportable segment of the Company. Concurrent with the closing ofthe transaction, the Company entered into a three-year supply agreement withPCD LLC whereby the Company indicated its intent to supply handsetproducts to PCD LLC. Due to the expected ongoing direct cash flowspursuant to the supply agreement, the sale of the PCD assets did not meet thecriteria for presentation as a discontinued operation under SFAS 144, “Accountingfor the Impairment or Disposal of Long-Lived Assets” (“SFAS 144”).

 

*Sale of Assets to Marvell Technology Group Ltd:*

 

In February 2006, the Company sold substantially all of the assetsand selected liabilities of its semiconductor design business division toMarvell Technology Group Ltd. (“Marvell”). In connection with the sale ofassets, the Company entered into a supply agreement with Marvell to purchasechipsets for the Company’s handset products over the next five years. The valueallocated to the supply agreement of $20.2 million has been amortized inproportion to the quantities of chipsets purchased under the supply agreement.For the three months ended March 31, 2009 and 2008, approximately$8.5 million and $2.1 million, respectively, have been amortizedagainst cost of sales. During the first quarter of 2009, the Companyrevised its estimates of customer demand for certain handset products anddetermined that future chipset purchases from Marvell would be negligible. As aresult, the Company fully amortized the remaining value of the supply agreementof $8.5 million in the three months ended March 31, 2009.

 

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**NOTE****4 - EARNINGS (LOSS) PERSHARE**

 

Basic earnings per share(“EPS”) is computed by dividing net income (loss) available to commonstockholders by the weighted average number of shares of the Company’s commonstock outstanding during the period, which excludes nonvested restricted stock.Diluted EPS presents the amount of net income (loss) available to each share ofcommon stock outstanding during the period plus each share of common stock thatwould have been outstanding assuming the Company had issued shares of commonstock for all dilutive potential common shares outstanding during the period.The Company’s potentially dilutive common shares include convertiblesubordinated notes prior to their maturity, outstanding stock options,nonvested restricted stock and restricted stock units and Employee StockPurchase Plan (“ESPP”), which are reflected in diluted net income per share byapplication of the treasury stock method. Under the treasury stock method, theamount that the employee must pay for exercising stock options, the amount ofstock-based compensation cost for future services that the Company has not yetrecognized, and the amount of tax benefit that would be recorded in additionalpaid-in capital upon exercise are assumed to be used to repurchase shares.

 

The following is asummary of the calculation of basic and diluted EPS:

 
| ** **                                                                                 | ** ** | **Three months ended March 31,**    | ** ** |
|--------------------------------------------------------------------------------------------|------------|------------------------------------------|------------|
| ** **                                                                                 | ** ** | **2009**                                 | ** ** | **2008** | ** ** |
| ** **                                                                                 | ** ** | **(in thousands except per share data)** | ** ** |
| **Numerator:**                                                                             |       |                                     |       |   |   |
| Net earnings (loss) attibutable to UTStarcom, Inc. for basic EPS  computation         |       | $                                        | (67,433    | ) | $ | 25,357 |   |
| Effect of dilutive securities - convertible subordinated notes                             |       | —                                   |       | — |   |
| Net earnings (loss) attributable to UTStarcom, Inc. adjusted for  dilutive securities |       | $                                        | (67,433    | ) | $ | 25,357 |   |
|                                                                                       |       |                                     |       |   |   |
| **Denominator:**                                                                           |       |                                     |       |   |   |
| Shares used to compute basic EPS                                                           |       | 125,731                                  |       | 122,096 |   |
| Dilutive common stock equivalent shares                                                    |       | —                                   |       | 1,002 |   |
| Shares used to compute diluted EPS                                                         |       | 125,731                                  |       | 123,098 |   |
|                                                                                       |       |                                     |       |   |   |
| Earnings (loss) per share attributable to UTStarcom, Inc. -  basic                    |       | $                                        | (0.54      | ) | $ | 0.21 |   |
| Earnings (loss) per share attributable to UTStarcom, Inc. -  diluted                  |       | $                                        | (0.54      | ) | $ | 0.21 |   |

 

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For the three monthsended March 31, 2009, no potential common shares were dilutive because ofthe net loss in the period.  For the threemonths ended March 31, 2008, certain stock options, nonvested restrictedstock and nonvested restricted stock units whose combined exercise price,unrecognized compensation cost and excess tax benefits were greater than theaverage market price of the Company’s common stock have also been excluded fromthe calculation of diluted EPS because to include them would have beenanti-dilutive for the period. In addition, weighted shares subject toperformance goals totaling 0.2 million were excluded from the computation ofdiluted earnings per share as of March 31, 2008 because the performancegoals had not been attained as of March 31, 2008. The following table summarizes the totalpotential shares of common stock that were excluded from the diluted per sharecalculation:

 
| ** **                                            | ** ** | **Three months ended March 31,** | ** ** |
|-------------------------------------------------------|------------|---------------------------------------|------------|
| ** **                                            | ** ** | **2009**                              | ** ** | **2008** | ** ** |
| ** **                                            | ** ** | **(in thousands)**                    | ** ** |
| Weighted-average stock options and awards outstanding |       | 14,790                                |       | 16,771 |   |
| Conversion of convertible subordinated notes          |       | —                                |       | 7,611 |   |
| Other                                                 |       | 308                                   |       | 503 |   |
|                                                  |       | 15,098                                |       | 24,885 |   |

 

**NOTE 5 -COMPREHENSIVE LOSS**

 

Total comprehensive lossfor the three months ended March 31, 2009 and 2008 consisted of thefollowing:

 
| ** **                                                                     | ** ** | **Three months ended March 31,** | ** ** |
|--------------------------------------------------------------------------------|------------|---------------------------------------|------------|
| ** **                                                                     | ** ** | **2009**                              | ** ** | **2008** | ** ** |
| ** **                                                                     | ** ** | **(in thousands)**                    | ** ** |
| Net (loss) income                                                              |       | $                                     | (67,434    | ) | $ | 24,847 |   |
| Unrealized loss on investments, net of tax                                     |       | (698                                  | )          | (1,450 | ) |
| Realization of previously unrealized gains, net of tax                         |       | —                                |       | (36,924 | ) |
| Realization of previously unrealized foreign currency translation,  net of tax |       | —                                |       | (1,378 | ) |
| Foreign currency translation                                                   |       | 573                                   |       | 7,764 |   |
|                                                                           |       | (67,559                               | )          | (7,141 | ) |
| Comprehensive loss attributable to noncontrolling interests (1)                |       | (1                                    | )          | (510 | ) |
| Comprehensive loss attributable to UTStarcom, Inc.                        |       | $                                     | (67,558    | ) | $ | (6,631 | ) |

 

----

(1)          Comprehensive loss attributable tononcontrolling interests consisted primarily of net loss.

 

The changes innoncontrolling interests during the three months ended March 31, 2009 wereas follows:

 
| ** **                                                  | ** ** | **Three months  ended March 31,  2009** | ** ** |
|-------------------------------------------------------------|------------|----------------------------------------------|------------|
| ** **                                                  | ** ** | **(in thousands)**                           | ** ** |
| Balance at January 1, 2009                             |       | $                                            | 808        |   |
| Comprehensive loss attributable to noncontrolling interests |       | (1                                           | )          |
| Balance at March 31, 2009                              |       | $                                            | 807        |   |

 

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**NOTE****6 — BALANCE SHEETDETAILS**

 

As of March 31, 2009and December 31, 2008, total inventories consisted of the following:

 
| ** **        | ** ** | **March 31,** | ** ** | **December 31,** | ** ** |
|-------------------|------------|--------------------|------------|-----------------------|------------|
| ** **        | ** ** | **2009**           | ** ** | **2008**              | ** ** |
| ** **        | ** ** | **(in thousands)** | ** ** |
| **Inventories:**  | ** ** | ** **         | ** ** | ** **            | ** ** |
| Raw materials     |       | $                  | 8,488      |                  | $          | 15,545 |   |
| Work in process   |       | 5,288              |       | 33,524                |       |
| Finished goods    |       | 147,229            |       | 122,238               |       |
| Total inventories |       | $                  | 161,005    |                  | $          | 171,307 |   |

 

**NOTE 7 -CASH, CASH EQUIVALENTS, INVESTMENTS AND FAIR VALUE MEASUREMENTS**

 

Cash and cash equivalents, consisting primarily of bank deposits andmoney market funds, are recorded at cost which approximates fair value becauseof the short-term nature of these instruments. There were no available-for-salesecurities investments included in cash and cash equivalents at March 31,2009 or December 31, 2008. Short-term investments, consisting of banknotes, were $1.0 million and $4.3 million at March 31, 2009 and December 31,2008, respectively.  During the firstquarter of 2008, the Company sold investment with a carrying value of $42.4million and recognized gains of $39.7 million in other income, net.

 

At March 31, 2009and December 31, 2008, MRV is the only available-for-sale securityinvestment recorded at fair value (see additional discussion below), all otherlong-term investments are accounted for under the cost method.  Any unrealized holding gains or losses arereported as a component of other comprehensive income, net of related incometax effects. Realized gains and losses are reported in earnings.  At March 31, 2009 and December 31,2008, the long-term investments included $4.0 million and $3.3 million ofunrealized holding loss which was recorded in accumulated other comprehensiveincome, respectively. There was no unrealized holding gain or loss inshort-term investments.

 

The Company accepts banknotes receivable with maturity dates of between three and six months from itscustomers in China in the normal course of business.  The Company may discount these bank noteswith banking institutions in China. During the three months ended March 31,2009 and 2008, the Company sold $9.9 million and $22.8 million of bank notes,respectively, and recorded costs of less than $0.1 million and $0.3 million,respectively, as a result of discounting the notes.

 

The following table shows the break-down of theCompany’s equity securities classified as long-term investments at March 31,2009 and December 31, 2008:

 
| ** **                   | ** ** | **March 31,** | ** ** | **December 31,** | ** ** |
|------------------------------|------------|--------------------|------------|-----------------------|------------|
| ** **                   | ** ** | **2009**           | ** ** | **2008**              | ** ** |
| ** **                   | ** ** | **(in thousands)** | ** ** |
|                         |       |               |       |                  |       |
| TET                          |       | $                  | —     |                  | $          | 4,800 |   |
| Cortina                      |       | 3,348              |       | 3,348                 |       |
| MRV                          |       | 471                |       | 1,170                 |       |
| GCT SemiConductor, Inc. |       | 3,000              |       | 3,000                 |       |
| Xalted Networks              |       | 3,302              |       | 3,302                 |       |
| PCD LLC                      |       | 1,600              |       | 1,600                 |       |
| Other                        |       | 471                |       | 471                   |       |
| Total equity securities      |       | $                  | 12,192     |                  | $          | 17,691 |   |

 

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*TET*

 

In October 2008, the Company invested $4.8 million intoTurnstone Environment Technologies LLC (“TET”), in exchange forapproximately 22% of voting interest at both March 31, 2009 and December 31,2008. The Company is not obligated to make further capital contributions. TET’smission is to secure the licensing rights to environmentally friendly,renewable energy technologies for distribution to various emerging markets,with an initial focus on India. TET is considered as a variable interest entitywhere the Company is the primary beneficiary and does not hold a majorityvoting interest. The assets, liabilities and operating results of TET weredetermined to be immaterial as of December 31, 2008 and, therefore, werenot consolidated.  As of and for thethree months ended March 31, 2009, the financial statements of TET wereincluded in the consolidated balance sheet and statement of operations of theCompany.  As a result of consolidation,the Company’s initial investment in TET is included in other long-term assets,net of liabilities, in the condensed consolidated balance sheet at March 31,2009, see Note 17.

 

*MRV*

 

On July 1,2007, Fiberxon, an investment in which the Company had a 7% ownership interest,completed a merger with MRV Communications (“MRV”), which is a publicly-tradedcompany in an active market. In exchange for the Company’s interest inFiberxon, the Company was entitled to receive $1.5 million in cash,1,519,365 shares of MRV common stock valued at approximately $4.5 millionand deferred consideration of approximately $2.7 million. The deferredconsideration becomes payable upon the completion of certain milestones and maybe reduced by legitimate claims of MRV for certain matters related to themerger. In the third quarter of 2007, the Company was paid the cashconsideration of $1.5 million and received 1,519,365 shares of MRV commonstock and recognized a gain on investment of $2.9 million. During thefirst quarter of 2009 and 2008, the Company recorded an unrealized loss of $0.7million and $1.4 million, respectively, in other comprehensive income,representing the change in fair value of the investment during thequarter.  Because the Company has theability and intent to hold this investment until a recovery of fair value, theCompany does not consider this investment to be other-than-temporarilyimpaired.  At both March 31, 2009 and December 31,2008, MRV is the only investment accounted for under SFAS 115, “Accounting forCertain Investments in Debt and Equity Securities.”

 

**FairValue Measurements**

 

SFAS No. 157clarifies that fair value is an exit price, representing the amount that wouldbe received to sell an asset or paid to transfer a liability in an orderlytransaction between market participants. As such, fair value is amarket-based measurement that should be determined based on assumptions thatmarket participants would use in pricing an asset or liability. As a basisfor considering such assumptions, SFAS No. 157 establishes a three-tiervalue hierarchy, which prioritizes the inputs used in measuring fair value asfollows: (Level 1) observable inputs such as quoted prices in active markets;(Level 2) inputs other than the quoted prices in active markets that areobservable either directly or indirectly; and (Level 3) unobservable inputs inwhich there is little or no market data, which require us to develop our ownassumptions. This hierarchy requires the Company to use observable market data,when available, and to minimize the use of unobservable inputs when determiningfair value. On a recurring basis, the Company measures certain financial assetsat fair value, including its marketable securities.

 

At March 31,2009, the Company’s investment in MRV is recorded at fair value, classifiedwithin Level 1 of the fair value hierarchy and its money market funds arerecorded at cost which approximates fair value, classified within Level 1of the fair value hierarchy.  The Companyhas no other financial assets or liabilities that are being measured at fairvalue at March 31, 2009.

 

**NOTE 8 -WARRANTY OBLIGATIONS AND OTHER GUARANTEES**

 

The Companyprovides a warranty on its equipment and handset sales for a period generallyranging from one to two years from the time of final acceptance. At times, theCompany has entered into arrangements to provide limited warranty services forperiods longer than two years. The Company provides for the expected cost ofproduct warranties at the time that revenue is recognized based on anassessment of past warranty experience and when specific circumstances dictate.From time to time, the Company may be subject to additional costs related tonon-standard warranty claims from its customers. If and when this occurs, theCompany estimates additional accruals based on historical experience,communication with its customers and various assumptions that the Companybelieves to be reasonable under the circumstances. Such additional warrantyaccruals are recorded in the period in which the additional costs areidentified.

 

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The following tablesummarizes the activity related to warranty obligations during the three monthsended March 31, 2009 and 2008:

 
| ** **                                       | ** ** | **Three months ended March 31,** | ** ** |
|--------------------------------------------------|------------|---------------------------------------|------------|
| ** **                                       | ** ** | **2009**                              | ** ** | **2008** | ** ** |
| ** **                                       | ** ** | **(in thousands)**                    | ** ** |
| Beginning of period                              |       | $                                     | 29,840     |   | $ | 52,734 |   |
| Accruals for warranties issued during the period |       | 3,582                                 |       | 7,233 |   |
| Settlements made during the period               |       | (3,608                                | )          | (10,395 | ) |
| Balance at end of period                         |       | $                                     | 29,814     |   | $ | 49,572 |   |

 

Certain of the Company’ssales contracts include provisions under which customers would be indemnifiedby the Company in the event of, among other things, a third-party claim againstthe customer for intellectual property rights infringement related to theCompany’s products.  There are nolimitations on the maximum potential future payments under theseguarantees.  The Company has not accruedany amount in relation to these provisions as no such claims have developedinto assertable claims and the Company believes it has defensible rights to theintellectual property embedded in its products.

 

**NOTE 9 -RESTRUCTURING COSTS**

 

During the fourth quarters of fiscal 2008and 2007, the Company announced restructuring initiatives focused on aligningthe Company’s cost base with revenues. During the first quarter of 2009, theCompany recorded an additional $4.8 million restructuring charge of which $4.6million relates to the 2008 Restructuring Plan and $0.2 million relates to the2007 Restructuring Plan. As of March 31, 2009 and December 31, 2008,the Company’s total restructuring accrual was $8.4 million and $9.5 million,respectively which is included in other current liabilities in the condensedconsolidated balance sheets. The Company continues to review its business foropportunities to reduce operating expenses and focus on executing its strategybased on core competencies and cost efficiencies.

 

*2008 Restructuring Plan*

 

During fiscal 2008, the Company implementeda restructuring plan (the “2008 Restructuring Plan”) and recorded $13.1 millionin restructuring charges primarily related to a global reduction in forceacross all functions and employee terminations at certain non-core operationswhich the Company is in the process of winding down. During the first quarterof 2009, the Company recorded an additional $4.6 million in restructuringcharges related to the 2008 Restructuring Plan. These charges were primarily general and corporate charges not directlyrelated to the Company’s core business units and included $3.4 million forseverance and benefits related to the transition of certain key functions,including finance, to China and $1.1 million for lease termination costs.Approximately 60 employees are affected by the transition of these keyfunctions to China. The Company expects to incur additional restructuringcharges during the remainder of 2009 as it continues to execute the 2008Restructuring Plan. Payment of accrued amounts related to severance andbenefits aggregating $5.8 million at March 31, 2009 are expected to besubstantially completed by the end of 2009, payments of $1.1 millionrelated to lease obligations will be settled over the remaining lease term,which expires in fiscal year 2010.

 

*2007 Restructuring Plan*

 

In the fourth quarter of 2007, the Company implemented a restructuringplan (the “2007 Restructuring Plan”) to reduce operating costs. During thefirst quarter of 2008, the Company completed the planned reduction in force,reducing the Company’s headcount by approximately 12%, or approximately 800employees. The workforce reduction was primarily in the United States and Chinaand, to a lesser degree, other international locations. At March 31, 2009the restructuring accrual for the 2007 Plan included within other liabilitiesof approximately $0.9 million was related to a lease obligation and will besettled over the remaining lease term, which expires in fiscal year 2010.

 

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The activity inthe accrued restructuring balances related to the plans described above was asfollows for the three months ended March 31, 2009:

 
| ** **                            | ** ** | **Balance at**             | ** ** | **Restructuring** | ** ** | **Cash**     | ** ** | **Non-cash**   | ** ** | **Balance at**          | ** ** |
|---------------------------------------|------------|----------------------------|------------|-------------------|------------|--------------|------------|----------------|------------|-------------------------|------------|
| ** **                            | ** ** | **December 31, 2008** | ** ** | **Charges**       | ** ** | **Payments** | ** ** | **Settlement** | ** ** | **March 31, 2009** | ** ** |
| ** **                            | ** ** | **(in thousands)**         | ** ** |
| 2008 Restructuring Plan               |       |                       |       |              |       |         |       |           |       |                    |       |
| Worforce Reduction                    |       | $                          | 7,976      |              | $          | 3,414        |       | $              | (5,229     | )                       | $          | (380 | ) | $ | 5,781 |   |
| Lease Costs                           |       | 249                        |       | 1,101             |       | (218         | )          | **—**     |       | 1,132                   |       |
| Other Costs                           |       | 498                        |       | 101               |       | —       |       | —         |       | 599                     |       |
| Total 2008 Restructuring Plan         |       | 8,723                      |       | 4,616             |       | (5,447       | )          | (380           | )          | 7,512                   |       |
|                                  |       |                       |       |              |       |         |       |           |       |                    |       |
| 2007 Restructuring Plan - Lease Costs |       | 788                        |       | 203               |       | (139         | )          | —         |       | 852                     |       |
| Total                                 |       | $                          | 9,511      |              | $          | 4,819        |       | $              | (5,586     | )                       | $          | (380 | ) | $ | 8,364 |   |

 

**NOTE 10- COMMITMENTS AND CONTINGENCIES**

 

***Litigation***

 

*Securities Class Action Litigation*

 

Beginning in October 2004, several shareholder class actionlawsuits alleging federal securities violations were filed against the Companyand various officers and directors of the Company. The actions have beenconsolidated in United States District Court for the Northern District ofCalifornia under the caption *In re UTStarcom, Inc.Securities Litigation*, Master File No. C-04-4908-JW (PVT). Thelead plaintiffs in the case filed a First Amended Consolidated Complaint on July 26,2005. The First Amended Complaint alleged violations of the Securities ExchangeAct of 1934, and was brought on behalf of a putative class of shareholders whopurchased the Company’s stock after April 16, 2003 and before September 20,2004. On April 13, 2006, the lead plaintiffs filed a Second Amended Complaintadding new allegations and extending the end of the class period to October 6,2005. In addition to the Company defendants, the plaintiffs are also suingSoftbank. Plaintiffs’ complaint seeks recovery of damages in an unspecifiedamount.

 

On June 2,2006, the Company and the individual defendants filed a motion to dismiss theSecond Amended Complaint. On March 21, 2007, the Court granted defendants’motion and dismissed plaintiffs’ Second Amended Complaint. The Court grantedplaintiffs leave to file a Third Amended Complaint, which plaintiffs filedon May 25, 2007. On July 13, 2007, the Company and the individualdefendants filed a motion to dismiss and a motion to strike the Third AmendedComplaint. On March 14, 2008, the Court granted defendants’ motion anddismissed plaintiffs’ Third Amended Complaint. The Court granted plaintiffsleave to file a Fourth Amended Complaint, which plaintiffs filed on May 14,2008. On June 13, 2008, consistent with the Court’s March 14, 2008dismissal order, the Company and the individual defendants filed objections tothe form and content of the Fourth Amended Complaint. On July 24, 2008,the Court overruled the objections. On September 8, 2008, the Company andthe individual defendants filed a motion to dismiss and a motion to strikecertain allegations from the Fourth Amended Complaint. On March 27, 2009,the Court denied defendants’ motion to dismiss and granted defendants’ motionto strike.

 

Due tothe status of this lawsuit and uncertainties related to litigation, managementis unable to evaluate the likelihood of either a favorable or unfavorableoutcome. Accordingly, management is unable at this time to estimate the effectsof this lawsuit on the Company’s financial position, results of operations, orcash flows.

 

On September 4,2007, a second shareholder class action complaint captioned *Peter Rudolph v. UTStarcom, et al.*,Case No. C-07-4578 SI, was filed in the United States DistrictCourt for the Northern District of California against the Company and some ofits current and former directors and officers. The complaint alleges violationsof the Securities Exchange Act of 1934 through undisclosed improper accountingpractices concerning the Company’s historical equity award grants. Plaintiffseeks unspecified damages on behalf of a purported class of purchasers of theCompany’s common stock between July 24, 2002 and September 4, 2007.On December 14, 2007, the Court appointed James R. Bartholomew leadplaintiff. On January 25, 2008, the lead plaintiff filed an amendedcomplaint. On April 14, 2008, the Court granted defendants’ motion todismiss the amended complaint. The Court granted the lead plaintiff leave tofile a second amended complaint no later than May 16, 2008 which wasfiled by the lead plaintiff on May 16, 2008. On June 6, 2008,defendants filed a motion to dismiss the second amended complaint. On August 21,2008, the Court granted in part and denied in part the motion to dismiss.The parties have reached a tentative settlement in the case, subject to finaldocumentation and court approval.  Apreliminary approval hearing is currently set for June 19, 2009.

 

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The tentativesettlement reached by the parties is subject to court approval, and there is noassurance that the court will grant approval of the settlement.  Managementis unable at this time to estimate the effects of this lawsuit, should thesettlement not be approved, on the Company’s financial position, results ofoperations, or cash flows.

 

*Governmental Investigations*

 

In December 2005,the U.S. Embassy in Mongolia informed the Company that it had forwarded tothe Department of Justice (the “DOJ”) allegations that an agent of theCompany’s Mongolia joint venture had offered payments to a Mongolian governmentofficial in possible violation of the Foreign Corrupt Practices Act (the “FCPA”).The Company, through its Audit Committee, authorized an independentinvestigation into possible violations of the FCPA, and it has been in contactwith the DOJ and U.S. Securities and Exchange Commission (the “SEC”) regarding theinvestigation. The investigation has identified possible FCPA violations inMongolia, Southeast Asia, India, and China, as well as possible violations ofU.S. immigration laws. The DOJ has requested that the Company voluntarilyproduce documents related to the investigation, the SEC has subpoenaed theCompany for documents, and the Company has received a Grand Jury Subpoenarequiring the production of documents related to one aspect of the DOJinvestigation, that is, training programs the Company had sponsored. The SEChas indicated it regards travel arrangements provided to customers in China inconnection with certain systems contracts, and other conduct, as violations.The Company has executed tolling agreements extending the statute oflimitations for the FCPA issues under investigation by the DOJ. Suchproceedings may result in criminal or civil sanctions, penalties anddisgorgements against the Company. If it is probable that an obligation of theCompany exists and will result in an outflow of resources, a provision will berecorded if the amount can be reasonably estimated. Regulatory and legalproceedings as well as government investigation often involve complex legalissues and are subject to substantial uncertainties. Accordingly, management exercisesconsiderable judgment in determining whether it is probable that such aproceeding will result in outflow of resources and whether the amount of theobligation can be reasonably estimated. The Company periodically reviews thestatus of these proceedings and these judgments are subject to change as newinformation becomes available. At this time, the Company cannot predict whenany inquiry will be completed or what the outcome of any inquiry will be. Ajudgment against the Company may have a material adverse effect on the Company’sfinancial position, results of operations and cash flows.

 

*Shareholder Derivative Litigation*

 

On November 17,2006, a shareholder derivative complaint captioned *Ernesto Espinoza v. Ying Wu et al.*, Case No. RG06298775,was filed against certain of the Company’s current and former officers anddirectors in the Superior Court of the County of Alameda, California. Thecomplaint alleges that the individual defendants, among other things, breachedtheir duties, were unjustly enriched, and violated the California CorporationsCode in connection with the timing of stock option grants. The complaint namesthe Company as a nominal defendant and seeks unspecified monetary damagesagainst the individual defendants and various forms of injunctive relief. On February 2,2007, the Company and the individual defendants filed demurrers against thecomplaint. On April 11, 2007, the Court sustained the individualdefendants’ demurrer, overruled the Company’s demurrer, ordered the plaintiffto file an amended complaint, and ordered the Company to answer the originalcomplaint. The plaintiff filed an amended complaint and the Company has filedan answer to the amended complaint. On August 21, 2007, the individualdefendants filed demurrers against the amended complaint. The Court sustainedthe individual defendants’ demurrers and ordered the plaintiff to file asecond amended complaint. On September 26, 2008, plaintiff filed hissecond amended complaint. On November 21, 2008, the Company and the individualdefendants filed demurrers against the second amended complaint. On February 27,2009, the Court sustained the Company’s demurrer and ordered the plaintiff tofile a third amended complaint. On March 20, 2009, the plaintiff filed histhird amended complaint. On May 5, 2009, the Company and the individualdefendants filed demurrers against the third amended complaint.

 

Due to the status of this lawsuit and uncertainties related tolitigation, management of the Company is unable to evaluate the likelihood ofeither a favorable or unfavorable outcome. Accordingly, management of theCompany is unable at this time to estimate the effects of this lawsuit on theCompany’s financial position, results of operations, or cash flows.

 

*IPO Allocation*

 

On October 31,2001, a complaint was filed in United States District Court for theSouthern District of New York against the Company, some of the Company’sdirectors and officers and various underwriters for the Company’s initialpublic offering. Substantially similar actions were filed concerning theinitial public offerings for more than 300 different issuers, and thecases were coordinated as *In re InitialPublic Offering Securities Litigation*, 21 MC 92 forpretrial purposes. In April 2002, a consolidated amended complaint wasfiled in the matter against the Company, captioned *In re UTStarcom, Initial Public Offering Securities Litigation*,Civil Action No. 01-CV-9604. Plaintiffs allege violations of theSecurities Act of 1933 and the Securities Exchange Act of 1934 throughundisclosed improper underwriting practices concerning the allocation of IPOshares in exchange for excessive brokerage commissions, agreements to purchaseshares at higher prices in the aftermarket and misleading analyst reports.Plaintiffs 

 

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seek unspecified damageson behalf of a purported class of purchasers of the Company’s common stockbetween March 2, 2000 and December 6, 2000. The Company’s directorsand officers have been dismissed without prejudice pursuant to a stipulation.On February 19, 2003, the Court granted in part and denied in part amotion to dismiss the claims brought by defendants including the Company. Theorder dismissed all claims against the Company except for a claim brought underSection 11 of the Securities Act of 1933, which alleges that theregistration statement filed in accordance with the IPO was misleading. In2007, a settlement that had been pending with the Court since 2004 wasterminated by stipulation after it became unlikely that the settlement wouldreceive final Court approval. Plaintiffs filed amended master allegations andamended complaints in six “focus” cases (the Company’s case is not a focuscase). In 2008, the Court largely denied the defendants’ motion to dismiss theamended complaints. The parties have reached a global settlement of thelitigation. Under the settlement, which remains subject to Court approval, theinsurers would pay the full amount of settlement share allocated to theCompany, and the Company would bear no financial liability. The Company, aswell as the officer and director defendants who were previously dismissed fromthe action pursuant to tolling agreements, would receive complete dismissalsfrom the case. It is uncertain whether the settlement will receive final Courtapproval. If the settlement does not receive final Court approval, andlitigation against the Company continues, the Company believes it hasmeritorious defenses and intends to defend the action vigorously.

 

*UTStarcom, Inc. v. Starent Patent InfringementLitigations*

 

On February 16, 2005, the Company filed a suit against Starent forpatent infringement in the U.S. District Court for the Northern Districtof California. In the Complaint, the Company asserted that Starent infringesUTStarcom patent U.S. Reg. No. 6,829,473 (“the ’473 patent”)through Starent’s development and testing of a software upgrade for itscustomer’s installed ST-16 Intelligent Mobile Gateways. The Company seeksdeclaratory and injunctive relief. Starent subsequently filed its answer andcounterclaims, and the Company then filed a motion to dismiss Starent’scounterclaim. On July 19, 2005, the parties stipulated that Starent wouldfile an amended answer and counterclaim and the Company then responded toStarent’s amended counterclaim. In early December 2006, the Company fileda reissue application for the ‘473 patent with the United StatesPatent and Trademark Office. Starent has also filed for reexamination of the ‘473 patent.The reexamination and reissue are currently co-pending. The litigation is stillin a preliminary stage, and is stayed pending the outcome of the reissue. Thelitigation and its outcome cannot be predicted, although management of theCompany believes the litigation has merit. Nonetheless, management of theCompany believes that any adverse judgment on Starent’s counterclaims will nothave a material adverse effect on the Company’s business, financial condition,results of operations or cash flows.

 

OnMay 8, 2007, the Company filed an additional suit against Starent and sixteenindividual defendants (who were all former employees of 3Com’s CommWorksdivision, of which the Company acquired certain assets in May of 2003) in theNorthern District of Illinois.  The causes of action include claims forpatent infringement, misappropriation of trade secrets, intentionalinterference with business relations and prospective economic advantage and declarationsof ownership of certain patent rights.  The Company seeks compensatorydamages, punitive damages and injunctive relief.  On August 16, 2007, theCourt denied the Defendants’ motion to dismiss the misappropriation of tradesecrets claims in the complaint.  On August 30, 2007, Defendants answeredthe Company’s complaint, denying the Company’s allegations and asserting anumber of affirmative defenses and counterclaims.  An amended complaint by the Company wasdeemed filed as of December 6, 2007, alleging additional causes ofaction.  On January 4, 2008, Starent moved to dismiss certain causes ofaction contained in that complaint.  On May 30, 2008, the Company filed aThird Amended Complaint, removing from suit U.S. patent 6,978,128, and addingadditional factual allegations relating to all defendants.  On July 23,2008, the Court dismissed the Company’s trade secret and contract-based countsin the Third Amended Complaint.  OnAugust 1, 2008, the Company asked the Court to clarify that ruling and filed amotion for leave to file a Fourth Amended Complaint containing the trade secretand contract-based counts.  On August 27, 2008, the Company moved topartially dismiss Starent’s counterclaims.  On September 24, 2008, afterinitially granting Defendants’ motion to strike the Fourth Amended Complaint,the Court reconsidered its order and granted the Company leave to file a FourthAmended Complaint.  On September 25,2008, the Fourth Amended Complaint was filed.  On October 14, 2008,Defendants moved to dismiss various counts of the Fourth Amended Complaint,including again seeking to have the trade secret claims dismissed.  OnDecember 5, 2008, the Court partially granted the Company’s motion to partiallydismiss Starent’s counterclaims.  On January 9, 2009, Starent filedamended counterclaims for non-infringement,invalidity and unenforceability of the asserted patents, tortuous interferencewith prospective economic advantage and trade secret misappropriation. On January 26, 2009, the Company filed an answer to the counterclaims andasserted various affirmative defenses.

 

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OnMarch 24, 2009, the Court ruled on Defendants’ October 14, 2008, motion todismiss certain claims in the Company’s Fourth Amended Complaint.  It denied Defendants’ motion to dismiss theCompany’s trade secret claims.  However,to the extent the Company’s claims against Defendants for intentionalinterference with business relations are based on misappropriation of theCompany’s trade secrets, the Court partially dismissed those claims, based uponthe doctrine of preemption.  The Courtalso dismissed, as not yet ripe for adjudication, one of the patent claimsbrought by the Company.  Finally theCourt also dismissed contract-based claims and related claims againstindividual defendants who had previously been employed by 3Com’s CommWorksdivision.  On March 25, 2009, the Courtdenied the motion of Starent co-founder Anthony Schoener to dismiss himindividually based upon lack of personal jurisdiction.  On April 21, 2009, Defendants answered theremaining claims against them.  Discoveryand motion practice is ongoing.  TheCourt has appointed a special master to handle discovery issues, issues relatedto identification of the trade secrets, summary judgments and certain othermotions.  The Company believes that anyadverse judgment on Starent’s counterclaims will not have a material adverseeffect on the Company’s business, financial condition, results of operations ofcash flows.

 

*Other Litigation*

 

The Company is a party to other litigation matters and claims that arenormal in the course of operations, and while the results of such litigationmatters and claims cannot be predicted with certainty, management of theCompany believes that the final outcome of such matters will not have amaterial adverse impact on the Company’s financial position, results ofoperations or cash flows.

 

***Letters of credit***

 

The Company issuesstandby letters of credit primarily to support international sales activitiesoutside of China and in support of purchase commitments.  When the Company submits a bid for a sale,often the potential customer will require that the Company issue a bid bond ora standby letter of credit to demonstrate its commitment through the bidprocess.  In addition, the Company may berequired to issue standby letters of credit as guarantees for advance customerpayments upon contract signing or performance guarantees.  The standby letters of credit usually expirewithout being drawn by the beneficiary thereof. Finally, the Company may issue commercial letters of credit in supportof purchase commitments.  As of March 31,2009 the Company had outstanding letters of credit approximating $51.1 million.At March 31, 2009 the Company had short-term restricted cash of $17.3million, and had long-term restricted cash of $15.5 million included in otherlong-term assets. These amounts primarily collateralize the Company’s issuancesof standby and commercial letters of credit.

 

**NOTE 11 —STOCK INCENTIVE PLANS**

 

During the quarter ended March 31,2009, the Company granted equity awards including restricted stock, restrictedstock units and stock options. Such awards generally vest over a period of oneto four years from the date of grant. Restricted stock has the voting rights of common stock and the sharesunderlying restricted stock are issued and outstanding.

 

In February 2008,the Compensation Committee granted 1,073,333 performance-based awards tocertain senior executive officers. During the third quarter of 2008, 233,333 of these contingently issuableshares were forfeited as a result of employee terminations.  On October 6, 2008, the performancerequirements with respect to 60,000 of these contingently issuable shares wereeliminated, these restricted stock units have a fair value of $2.69 per share,which equals the closing price of the Company’s common stock on the NASDAQStock Market on the measurement date of October 6, 2008. On February 18,2009, the Committee determined, based on the Company’s and each executiveofficer’s level of performance during the Company’s 2008 fiscal year, that anadditional 367,500 shares underlying the previously granted performance-basedrestricted stock units had been earned, each of these performance-basedrestricted stock units has a fair value of $1.27 per share, which equals theclosing price of the Company’s common stock on the NASDAQ Stock Market on themeasurement date of February 18, 2009. These restricted stock units vested 50% on February 27, 2009 andwill vest 50% on February 26, 2010.

 

In February 2009,the Compensation Committee also granted to senior executive officers 313,293restricted stock units with a four-year vesting and an additional 626,586performance-based awards, subject to the attainment of goals determined by theCompensation Committee.  The Company maybe subject to variable levels of expense related primarily to the varyinglevels of performance, as well as for fluctuations in the Company’s stock priceas these awards are “marked to market” periodically prior to the date of theCompensation Committee’s determination on performance.

 

To reduce the Company’slong term cost structure and manage shareholder dilution, the Company haselected to terminate the ESPP program effective May 15, 2009.  Thecancellation has been accounted for as a settlement of shares for noconsideration.  This resulted in an immediate expense recognition in thecurrent period of $1.2 million associated with the unrecognized compensationfor canceled purchase periods of the 24-month offering.

 

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The total stock-basedcompensation expense, including the ESPP expense described above,  recognized in the condensed consolidatedstatement of operations for the three months ended March 31, 2009 and 2008was as follows:

 
| ** **                          | ** ** | **Three months ended March 31,** | ** ** |
|-------------------------------------|------------|---------------------------------------|------------|
| ** **                          | ** ** | **2009**                              | ** ** | **2008** | ** ** |
| ** **                          | ** ** | **(in thousands)**                    | ** ** |
| Cost of net sales                   |       | $                                     | 430        |   | $ | 260 |   |
| Selling, general and administrative |       | 2,439                                 |       | 3,997 |   |
| Research and development            |       | 897                                   |       | 538 |   |
| Restructuring                       |       | 380                                   |       | — |   |
| Total                               |       | $                                     | 4,146      |   | $ | 4,795 |   |

 

Option activity as of March 31,2009 and changes during the three months ended March 31, 2009 was asfollows:

 
| ** **                                  | ** ** | **Number of  shares  outstanding** | ** ** | **Weighted  average  exercise  price** | ** ** |
|---------------------------------------------|------------|------------------------------------|------------|----------------------------------------|------------|
| ** **                                  | ** ** | **(in thousands)**                 | ** ** | ** **                             | ** ** |
| Options outstanding, December 31, 2008 |       | 8,767                              |       | $                                      | 9.63       |   |
| Options granted                             |       | 100                                |       | $                                      | 1.01       |   |
| Options exercised                           |       | (1                                 | )          | $                                      | 0.25       |   |
| Options forfeited or expired                |       | (668                               | )          | $                                      | 11.33      |   |
| Options outstanding, March 31, 2009    |       | 8,198                              |       | $                                      | 9.39       |   |

 

Nonvested restrictedstock and restricted stock units as of March 31, 2009, and changes duringthe three months ended March 31, 2009, were as follows:

 
| ** **                             | ** ** | **Shares**         | ** ** | **Weighted  average grant  date fair value** | ** ** |
|----------------------------------------|------------|--------------------|------------|----------------------------------------------|------------|
| ** **                             | ** ** | **(in thousands)** | ** ** | ** **                                   | ** ** |
| Nonvested at December 31, 2008    |       | 6,712              |       | $                                            | 2.96       |   |
| Granted                                |       | 1,365              |       | $                                            | 1.01       |   |
| Vested                                 |       | (1,741             | )          | $                                            | 2.97       |   |
| Forfeited                              |       | (570               | )          | $                                            | 2.86       |   |
| Total nonvested at March 31, 2009 |       | 5,766              |       | $                                            | 2.50       |   |

 

At March 31, 2009,there was approximately $16.6 million of total unrecognized compensation cost,related to non-vested stock options, restricted stock and restricted stockunits, as measured, which the Company expects to recognize over a weighted-averageperiod of 2.5 years. For additional information regarding the Company’sstock-based compensation plans, see the Company’s Annual Report on Form 10-Kfor the year ended December 31, 2008.

 

**NOTE12 - INCOME TAXES**

 

As of December 31, 2008, the Company’s gross unrecognized taxbenefits totaled $92.8 million and are included in other long-termliabilities, net of certain deferred tax assets and the federal tax benefit ofstate income tax items totaling $82.1 million. If recognized, the portionof gross unrecognized tax benefits that would decrease the provision for incometaxes and increase the Company’s net income is approximately$10.7 million.

 

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As of March 31,2009, the Company’s gross unrecognized tax benefits totaled $67.0 million and are included in otherlong-term liabilities, net of certain deferred tax assets and the federal taxbenefit of state income tax items totaling $57.6 million. If recognized, the portion ofgross unrecognized tax benefits that would decrease the provision for incometaxes and increase the Company’s net income is approximately $9.4 million. The Company has reduced itstotal unrecognized tax benefits by approximately $26.5 million during thequarter due to statute of limitations expirations and settlements of income taxaudits. The portion of this $26.5 million reduction of gross unrecognized taxbenefits that decreased the provision for income taxes and increased theCompany’s net income during the quarter was approximately $1.4 million. Thetotal unrecognized tax benefits relate primarily to the allocations of revenueand costs among our global operations.

 

The Company recognizesinterest expense and penalties related to the above unrecognized tax benefitswithin income tax expense. The Company had accrued interest and penalties ofapproximately $3.9 million as of December 31, 2008 and approximately $2.8 million as of March 31, 2009. TheCompany has reduced its interest expense and penalties recorded within incometax expense by approximately $1.4 million during the quarter due to statute oflimitations expirations and settlements of income tax audits.

 

The Company is subject to taxation in the U.S. federaljurisdiction and various U.S. state and foreign jurisdictions. The Companyis under audit by the taxing authorities in China on a recurring basis. Thematerial jurisdictions that the Company is subject to examination are in theUnited States and China. The Company’s tax years for 1998 through 2008 arestill open for examination in China. The Company’s tax years for 2006 through2008 are still open for examination in the United States.

 

FIN 48 established criteria for recognizing or continuing torecognize only more-likely-than-not tax positions, which may result in incometax expense volatility in future periods. While the Company believes that ithas adequately provided for all tax positions, amounts asserted by taxingauthorities could be greater than the Company’s accrued position. Accordingly,additional provisions on income tax related matters could be recorded in thefuture as revised estimates are made or the underlying matters are settled orotherwise resolved.

 

In establishing its deferred income tax assets and liabilities, theCompany makes judgments and interpretations based on the enacted tax laws andpublished tax guidance applicable to its operations. The Company recordsdeferred tax assets and liabilities and evaluates the need for valuationallowances to reduce the deferred tax assets to realizable amounts. Thelikelihood of a material change in the Company’s expected realization of theseassets is dependent on future taxable income and its ability to use foreign taxcredit carryforwards and carrybacks.

 

Income tax expense was $1.8 million for the three months ended March 31,2009 compared to a tax benefit of $5.0 million for the three months ended March 31,2008.

 

Income tax expense forthe three months ended March 31, 2009 included a tax benefit of $2.8million related to the recognition of previously unrecognized tax benefits andthe reversal of interest and penalties due to statute of limitationsexpirations and income tax audit settlements.

 

The Company’s income taxexpense for the first quarter of 2008 at statutory rates was $3.5 million. This amount was adjusted for the two items discussed below.  The China Corporate Income Tax Law (“CIT Law”)was effective on January 1, 2008. As a result of the enactment of regulations during the first quarter of2008 which addressed CIT Law, the Company recorded an income tax benefit of$11.7 million related to reversing a deferred tax liability on foreignwithholding taxes related to the unremitted earnings of the Company’s subsidiarieswhich the Company had previously determined to not be permanently reinvestedoutside the United States.  The Companyalso accrued $3.2 million of foreign withholding taxes related to the realizedgain on the sale of its investment in Gemdale.

 

For 2009 and 2008, theCompany has not provided any tax benefit on any forecasted losses incurred andtax credits generated in the United States and other countries, becausemanagement believes that it is more likely than not that the tax benefitassociated with these losses will not be realized. Also, for 2009 and 2008, theCompany continues to accrue tax expense in jurisdictions where the Company hasbeen historically profitable. Estimates of the annual effective tax rate at theend of the interim periods are based on evaluations of possible future eventsand transactions and may be subject to subsequent refinement or revision.

 

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**NOTE13 - OTHER (EXPENSE) INCOME, NET**

 

Other(expense) income, net for the three months ended March 31, 2009 and 2008,respectively were comprised of the following:

 
| ** **                                                                     | ** ** | **Three months ended March 31,** | ** ** |
|--------------------------------------------------------------------------------|------------|---------------------------------------|------------|
| ** **                                                                     | ** ** | **2009**                              | ** ** | **2008** | ** ** |
| ** **                                                                     | ** ** | **(in thousands)**                    | ** ** |
| Gain on sale of investments                                                    |       | $                                     | —     |   | $ | 39,679 |   |
| Gain on liquidation of investment in a variable interest entity (see  Note 17) |       | —                                |       | 8,169 |   |
| Foreign exchange (losses) gains                                                |       | (7,258                                | )          | 5,709 |   |
| Other                                                                          |       | 44                                    |       | 413 |   |
| Total                                                                          |       | $                                     | (7,214     | ) | $ | 53,970 |   |

 

**NOTE 14- SEGMENT REPORTING**

 

To align thebusiness units with its corporate strategy to focus on core businesses, on July 1, 2008 theCompany sold PCD to PCD LLC (see note 3). Prior to July 1, 2008, PCDsold and supported handsets other than PAS handsets, mainly in theUnited States. Included in the Other segment are Mobile Solutions BusinessUnit (“MSBU”) and Custom Solutions business unit (“CSBU”).  On July 31, 2008, the Company sold MSBUwhich was responsible for the development, sales and service of the Company’swireless IPCDMA/IPGSM product line. In the first quarter of 2009, the Companycompleted the wind-down of CSBU and the consolidation of voice messagingtechnology into its Multimedia Communications segment. CSBU historically hadbeen responsible for the development, sales and service of other non-coreproducts. As a result of these changes the Company revised its internalreporting structure, operating segments and reporting segments.

 

Effective January 1,2009, the new reporting segments are as follows:

 

·                  Multimedia Communications—Focusedon development and market opportunities in IPTV solutions and Wirelessinfrastructure technologies.

 

·                  BroadbandInfrastructure—Focused on the Company’s world class portfolio of broadbandproducts.

 

·                  Handsets—Focused on mobilephone business with continued focus on the PAS and CDMA handset market, as wellas data cards markets. Handset sales to PCD LLC, which commenced after theJuly 1, 2008 sale of PCD, are included in this segment.

 

·                  Services—Focused onproviding services and support of the Company’s Broadband Infrastructure andMultimedia Communications product lines.

 

The Company’s chief operatingdecision makers make financial decisions based on information it receives fromits internal management system and currently evaluates the operatingperformance of and allocates resources to the reporting segments based onsegment revenue and gross profit. Cost of sales and direct expenses in relationto production are assigned to the reporting segments.  The accounting policies used in measuringsegment assets and operating performance are the same as those used at theconsolidated level.

 

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Summarized below are the Company’ssegment net sales, gross profit and segment margin for the three months ended March 31,2009 and 2008 based on the current reporting segment structure:

 
| ** **                 | ** ** | **Three months ended March 31,** | ** **    |
|----------------------------|------------|---------------------------------------|---------------|
| ** **                 | ** ** | **2009**                              | ** **    | **% of net  sales** | ** ** | **2008** | ** ** | **% of net  sales** | ** ** |
| ** **                 | ** ** | **(in thousands)**                    | ** **    |
| ***Net Sales by Segment*** |       |                                  |          |   |   |   |   |   |   |
| Multimedia Communications  |       | $                                     | 34,033        |   | 28 | % | $ | 67,446 |   | 12 | % |
| Broadband Infrastructure   |       | 15,419                                |          | 13 | % | 25,590 |   | 4 | % |
| Handsets                   |       | 56,060                                |          | 47 | % | 44,023 |   | 8 | % |
| Services                   |       | 13,828                                |          | 12 | % | 11,091 |   | 2 | % |
| PCD                        |       | —                                |          | — |   | 430,724 |   | 73 | % |
| Other                      |       | —                                |          | — |   | 7,115 |   | 1 | % |
|                       |       | $                                     |  119,340 |   | 100 | % | $ | 585,989 |   | 100 | % |

 
| ** **                    | ** ** | **Three months ended March 31,** | ** **   |
|-------------------------------|------------|---------------------------------------|--------------|
| ** **                    | ** ** | **2009**                              | ** **   | **Gross  profit %** | ** ** | **2008** | ** ** | **Gross  profit %** | ** ** |
| ** **                    | ** ** | **(in thousands)**                    | ** **   |
| ***Gross profit by Segment*** |       |                                  |         |   |   |   |   |   |   |
| Multimedia Communications     |       | $                                     | 10,554       |   | 31 | % | $ | 33,156 |   | 49 | % |
| Broadband Infrastructure      |       | 1,620                                 |         | 11 | % | 2,221 |   | 9 | % |
| Handsets                      |       | 6,302                                 |         | 11 | % | 16,215 |   | 37 | % |
| Services                      |       | 3,176                                 |         | 23 | % | 2,319 |   | 21 | % |
| PCD                           |       | —                                |         | — |   | 32,836 |   | 8 | % |
| Other                         |       | —                                |         | — |   | 5,332 |   | 75 | % |
|                          |       | $                                     |  21,652 |   | 18 | % | $ | 92,079 |   | 16 | % |

 
| ** **                              | ** ** | **Three months ended March 31,** | ** ** |
|-----------------------------------------|------------|---------------------------------------|------------|
| ** **                              | ** ** | **2009**                              | ** ** | **2008** | ** ** |
| ** **                              | ** ** | **(in thousands)**                    | ** ** |
| ***Segment Margin and Operating Loss*** |       |                                  |       |   |   |
| Multimedia Communications               |       | $                                     | (1,580     | ) | $ | 16,195 |   |
| Broadband Infrastructure                |       | (3,164                                | )          | (4,225 | ) |
| Handsets                                |       | 236                                   |       | 1,021 |   |
| Services                                |       | 3,012                                 |       | 946 |   |
| PCD                                     |       | —                                |       | 24,964 |   |
| Other                                   |       | —                                |       | (4,158 | ) |
| Total segment margin                    |       | (1,496                                | )          | 34,743 |   |
| General and Corporate                   |       | (57,359                               | )          | (65,632 | ) |
| Operating Loss                          |       | $                                     | (58,855    | ) | $ | (30,889 | ) |

 

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Assets by segmentare as follows:

 
| ** **                               | ** ** | **March 31,** | ** **    | **December 31,** | ** ** |
|------------------------------------------|------------|--------------------|---------------|-----------------------|------------|
| ** **                               | ** ** | **2009**           | ** **    | **2008**              | ** ** |
| ** **                               | ** ** | **(in thousands)** | ** **    |
| ***Property, Plant and Equipment, net*** |       |               |          |                  |       |
| Multimedia Communications                |       | $                  | 77,290        |                  | $          | 78,890 |   |
| Broadband Infrastructure                 |       | 39,004             |          | 39,649                |       |
| Handsets                                 |       | 39,327             |          | 39,975                |       |
| Services                                 |       | 16,501             |          | 16,773                |       |
|                                     |       | $                  |  172,122 |                  | $          | 175,287 |   |

 
| ** **                | ** ** | **March 31,** | ** **      | **December 31,** | ** ** |
|---------------------------|------------|--------------------|-----------------|-----------------------|------------|
| ** **                | ** ** | **2009**           | ** **      | **2008**              | ** ** |
| ** **                | ** ** | **(in thousands)** | ** **      |
| ***Total assets***        |       |               |            |                  |       |
| Multimedia Communications |       | $                  | 558,321         |                  | $          | 602,207 |   |
| Broadband Infrastructure  |       | 362,565            |            | 337,571               |       |
| Handsets                  |       | 181,823            |            | 288,050               |       |
| Services                  |       | 70,910             |            | 75,633                |       |
| Other                     |       | —             |            | 7,345                 |       |
|                      |       | $                  |  1,173,619 |                  | $          | 1,310,806 |   |

 

Sales are attributed to ageographical area based upon the location of the customer. Sales data bygeographical area are as follows:

 
| ** **                | ** ** | **Three months ended March 31,** | ** ** |
|---------------------------|------------|---------------------------------------|------------|
| ** **                | ** ** | ** **                            | ** ** | **% of net** | ** ** | ** ** | ** ** | **% of net** | ** ** |
| ** **                | ** ** | **2009**                              | ** ** | **sales** | ** ** | **2008** | ** ** | **sales** | ** ** |
| ** **                | ** ** | **(in thousands)**                    | ** ** |
| ***Net Sales by region*** |       |                                  |       |   |   |   |   |   |   |
| United States             |       | $                                     | 41,259     |   | 35 | % | $ | 421,863 |   | 72 | % |
| China                     |       | 51,219                                |       | 43 | % | 117,122 |   | 20 | % |
| Other                     |       | 26,862                                |       | 22 | % | 47,004 |   | 8 | % |
| Net sales                 |       | $                                     | 119,340    |   | 100 | % | $ | 585,989 |   | 100 | % |

 

Long-lived assets,consisting of property, plant and equipment, by geographical area are asfollows:

 
| ** **              | ** ** | **March 31,** | ** ** | **December 31,** | ** ** |
|-------------------------|------------|--------------------|------------|-----------------------|------------|
| ** **              | ** ** | **2009**           | ** ** | **2008**              | ** ** |
| ** **              | ** ** | **(in thousands)** | ** ** |
| U.S.                    |       | $                  | 533        |                  | $          | 627 |   |
| China                   |       | 170,552            |       | 172,844               |       |
| Other                   |       | 1,037              |       | 1,816                 |       |
| Total long-lived assets |       | $                  | 172,122    |                  | $          | 175,287 |   |

 

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**NOTE15 - CREDIT RISK AND CONCENTRATION**

 

TheCompany’s accounts receivable balance included amounts due from PCD LLC,representing approximately 15% and 39% at March 31, 2009 and December 31,2008, respectively.

 

Thefollowing customers accounted for 10% or more of the Company’s net sales:

 

| **For the three months ended March 31,** | ** ** | **% of net sales** | ** ** |
|-----------------------------------------------|------------|--------------------|------------|
| ** **                                    | ** ** | ** **         | ** ** |
| **2009**                                      | ** ** | ** **         | ** ** | ** ** |
| PCD LLC                                       |       | 32                 | %          |
|                                          |       |               |       |
| **2008**                                      | ** ** | ** **         | ** ** | ** ** |
| Verizon Wireless                              |       | 25                 | %          |
| Sprint Spectrum                               |       | 18                 | %          |
| T-Mobile USA, Inc.                       |       | 10                 | %          |

 

Approximately22% and 12% of the Company’s net sales during the three months ended March 31,2009 and 2008, respectively, were to entities affiliated with the government ofChina. Accounts receivable balances from these China government affiliatedentities or state owned enterprises were $77.3 million and $86.2 million as of March 31,2009 and December 31, 2008, respectively. The Company extends credit toits customers in China generally without requiring collateral. With respect toglobal sales outside of China, the Company may require letters of credit fromits customers. The Company monitors its exposure for credit losses andmaintains allowances for doubtful accounts.

 

Approximately 43% and 20% of the Company’s sales forthe three months ended March 31, 2009 and 2008, respectively, were made inChina. Accordingly, the political, economic and legal environment, as well asthe general state of China’s economy may influence the Company’s business,financial condition and results of operations. The Company’s operations inChina are subject to special considerations and significant risks not typicallyassociated with companies in the United States. These include risks associatedwith, among others, the political, economic and legal environments and foreigncurrency exchange. The Company’s results may be adversely affected by, amongother things, changes in the political, economic and social conditions inChina, and by changes in governmental policies with respect to laws andregulations, changes in China’s telecommunications industry and regulatory rules andpolicies, anti-inflationary measures, currency conversion and remittanceabroad, and rates and methods of taxation.

 

**NOTE 16- RELATED PARTY TRANSACTIONS**

 

*Softbankand affiliates*

 

The Company recognizesrevenue with respect to sales of telecommunications equipment to affiliates ofSoftbank, a significant stockholder of the Company. Softbank offers ADSLcoverage throughout Japan, which is marketed under the name “YAHOO! BB.” TheCompany supports Softbank’s fiber-to-the-home service through sales of itscarrier class GEPON product as well as its NetRingÔproduct. In addition, the Company supports Softbank’s new internet protocoltelevision (“IPTV”), through sales of its RollingStreamÔproduct. During the three months ended March 31, 2009 and 2008, theCompany recognized revenue of $6.2 million and $11.8 million, respectively, forsales of telecommunications equipment and services to affiliates of Softbank.

 

Included in accountsreceivable at March 31, 2009 and December 31, 2008 were $6.4 millionand $9.2 million, respectively, related to these transactions. The Companyhad immaterial amounts of accounts payable to Softbank and its affiliates at March 31,2009 and December 31, 2008.

 

Sales to Softbank includea three year service period and a penalty clause if product failure ratesexceed a certain level over a seven year period. As of March 31, 2009 and December 31,2008, the Company’s customer advance balance related to Softbank agreements was$0.2 million and $0.7 million, respectively. The current deferred revenue balance related to Softbank was $2.1 millionand $4.0 million as of March 31, 2009 and December 31, 2008,respectively.  As of March 31, 2009,the Company’s noncurrent deferred revenue balance related to Softbank was$9.1  million compared to $9.2 million asof December 31, 2008.

 

As of March 31,2009, Softbank beneficially owned approximately 12% of the Company’soutstanding stock.

 

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**NOTE17—VARIABLE INTEREST ENTITIES**

 

InOctober 2008, the Company made an investment in Turnstone EnvironmentTechnologies LLC (“TET”), a Delaware limited liability company formed forthe purpose of licensing and developing energy efficient renewable coolingsolutions for cell towers in the telecommunications industry. In exchange for5,180,788 Series A Preferred units representing approximately 22% ofvoting interest in TET and 500,000 Series A Preferred warrants at anexercise price of $0.9265 per unit and with an expiration term of 5 years,the Company contributed $4.8 million in cash. The Company currently doesnot have any representation on TET’s board of directors nor the ability tocontrol the management and operation decisions of TET. The operations of TETare in the development stage and the entity is actively seeking additionalinvestors. The Company does not intend to and has no obligation to fund future lossesor make additional contributions other than its initial investment. As of March 31,2009 and December 31, 2008, TET was in effect entirely funded by theCompany’s initial investment as the capital contributions of the currentinvestors were not substantive. The Company has determined that the venture isa variable interest entity and the Company is the primary beneficiary becauseit is exposed to the majority of the variable interest entity’s expectedlosses. Therefore, the Company is required to consolidate TET’s financialstatements under FIN 46R, “Consolidation of Variable Interest Entities.”   Beginning January 1, 2009, the assets,liabilities and operating results of TET were consolidated into the Company’sbalance sheet and statement of operations. The assets, liabilities andoperating results of TET were determined to be immaterial as of December 31,2008 and to the results of operations and cash flows for the full year and thefourth quarter of 2008 and, therefore, were not consolidated. TET had norevenue and had a loss of $0.5 million for the three months ended March 31,2009. The consolidation of TET represented $4.6 million of the total assets and$0.3 million of the total liabilities of the Company as of March 31, 2009.

 

Duringthe fourth quarter of 2005, the Company provided an interest free,$12.4 million loan to a party in China as seed capital for a ventureorganized to participate in providing technical service, networking technologyand equipment to the emerging market for IPTV products in China. The loan,partially secured by an indirect ownership interest in the venture, was payablein 10 years and could be called early without penalty. As a result of theforegoing, and the fact that the venture’s continuing viability was heavilydependent on the further provision of network and terminal equipment by theCompany, the Company determined that the venture was a variable interest entity(“VIE”) and that the Company was the primary beneficiary of the venture.Therefore, the Company was required to consolidate the VIE’s financialstatements. The consolidation of this VIE in prior years did not have asignificant impact on the Company’s consolidated financial statements. In March 2008,the Company received a repayment in full of the loan’s principal balance,eliminating its interest in the VIE, and resulting in reconsideration of theCompany’s position as the primary beneficiary. Based on this reconsiderationevent, management has concluded the Company is no longer the primarybeneficiary under FIN 46R, “Consolidation of Variable Interest Entities” and isno longer required to consolidate the VIE’s financial statements. The Company’sConsolidated Statement of Operations for the three month period ended March 31,2008 includes the operating results of the VIE through February 2008, atwhich point the VIE was deconsolidated from the Company’s financial statements.The Company recorded an $8.2 million gain upon the repayment of the loan anddeconsolidation that was included in other income, net, for the three monthsended March 31, 2008.  As management expects continuinginvolvement with the ongoing entity’s business as a supplier of IPTV equipment,the Company has determined the conditions for presentation as a discontinuedoperation have not been met.

 

**ITEM 2—MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIALCONDITION AND RESULTS OF OPERATIONS**

 

**FORWARD-LOOKINGSTATEMENTS**

 

This Quarterly Report on Form 10-Qcontains forward-looking statements regarding future events and our futureresults that are subject to the safe harbors created under the Securities Actof 1933 and the Securities Exchange Act of 1934. Forward-looking statements arebased on current expectations, estimates, forecasts and projections about us,our future performance and the industries in which we operate as well as on ourmanagement’s assumptions and beliefs. Statements that contain words like “expects,”“anticipates,” “may,” “will,” “targets,” “projects,” “intends,” “plans,” “believes,”“seeks,” “estimates,” or variations of such words and similar expressions areforward-looking statements. In addition, any statements that refer to trends inour businesses, future financial results, and our liquidity and business plansare forward-looking statements. Readers are cautioned that these forward-lookingstatements are only predictions and are subject to risks and uncertainties,including those discussed in “Part II, Item 1A-Risk Factors” of this Form 10-Q.  Therefore, actual results may differmaterially and adversely from those expressed in any forward-lookingstatements. We do not guarantee future results, and actual results,developments and business decisions may differ from those contemplated by thoseforward-looking statements.  We undertakeno obligation to update these forward-looking statements to reflect events orcircumstances occurring after the date of this Form 10-Q.

 

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**EXECUTIVESUMMARY**

 

We design, manufacture and sell IP-based telecommunicationsinfrastructure products including our primary product suite of InternetProtocol TV (“IPTV”), Next Generation Network (“NGN”) and broadband solutionsalong with the ongoing services relating to the installation, operation andmaintenance of these products. In addition, we also sell handsets that aredesigned and manufactured primarily for the China market. Our products are soldprimarily to telecommunications service providers or operators. We sell anextensive range of products that are designed to enable voice, data and videoservices for our operator customers and consumers around the world. Over thepast few years, we have expanded our focus to build a global presence andcurrently sell our products in several established and emerging growth marketsin Asia, Latin America and Europe. We intend to continue to enhance ourmanufacturing capabilities and improve our internal supply chain and inventorymanagement processes to ensure timely deliveries of quality products. We alsointend to continue to implement and enhance our administrative infrastructureto assist our globalization.

 

We differentiate ourselves with products designed to reduce networkcomplexity, integrate high performance capabilities and allow a simpletransition to next generation networks. We design our products to facilitatecost-effective and efficient deployment, maintenance and upgrades.

 

Because our products are IP-based, our customers can more easilyintegrate our products with other industry standard hardware and software.Additionally, we believe we can introduce new features and enhancements thatcan be cost-effectively added to our customers’ existing networks. IP-baseddevices can be changed or upgraded in modules, saving our customers the expenseof replacing their entire system installation.

 

**Restructuring Programs**

 

On December 16, 2008, our Board of Directors approved arestructuring plan (the “2008 Restructuring Plan”) designed to reduceoperating costs. The plan includes, among other things, winding down our Koreabased handset operations (“Korea Operations”) and implementing an additionalworldwide reduction in force of approximately 10% of our headcount by the endof the second quarter of 2009. In connection with the 2008 Restructuring Plan,during the fourth quarter of 2008 we incurred a restructuring charge of$13.1 million comprised largely of cash payments associated with one-timeseverance benefits. During the first quarter of 2009, we recorded an additional$4.8 million in restructuring charges of which $4.6 million relates to the 2008Restructuring Plan. These charges wereprimarily general and corporate charges not directly related to our corebusiness units and included $3.4 million for severance and benefits primarilyrelated to the transition of certain key functions, including finance, to Chinaand $1.1 million for lease termination costs. Approximately 60 employees areaffected by the transition of these key functions to China. We expect to incuradditional restructuring charges during the remainder of 2009 as we continue toexecute the 2008 Restructuring Plan. Payment of accrued amounts related toseverance and benefits aggregating $5.8 million at March 31, 2009 areexpected to be substantially completed by the end of 2009, payments of$1.1 million related to lease obligations will be settled over the remaininglease term, which expires in fiscal year 2010.

 

We will continue our efforts to evaluate certain operations and willconsider opportunities to divest additional non-core assets and may incuradditional costs associated with future actions to further align our businessoperations and streamline our business processes.

 

**Revenue Effects of Non-Core Asset Sales**

 

The sale of UTStarcom Personal Communications LLC, a wholly-ownedsubsidiary of the Company (“PCD”), in July 2008 resulted in a substantialreduction in sales during the three months ended March 31, 2009 comparedwith the same period in 2008. Net sales decreased by $466.6 million to $119.3 million duringthe three months ended March 31, 2009 compared to the same period in 2008.The decrease was primarily due to the disposal of PCD in 2008. The PCD segmentaccounted for $430.7 of the net sales for the three months ended March 31,2008.

 

**CRITICALACCOUNTING POLICIES AND ESTIMATES**

 

Management’sDiscussion and Analysis of Financial Condition and Results of Operations isbased upon our Consolidated Condensed Financial Statements, which we haveprepared in accordance with U.S. generally accepted accounting principles. Thepreparation of these financial statements requires management to make estimatesand assumptions that affect the reported amounts of assets, liabilities,revenue and expenses, and related disclosure of contingent assets andliabilities. Estimates are based on historical experience, knowledge ofeconomic and market factors and various other assumptions that managementbelieves to be reasonable under the circumstances. Actual results may differfrom those estimates.

 

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On a regular basiswe evaluate our estimates, assumptions and judgments and make changesaccordingly. An accounting policy is deemed to be critical if it requires anaccounting estimate to be made based on assumptions about matters that arehighly uncertain at the time the estimate is made, if different estimatesreasonably could have been used, or if changes in the estimate that are reasonablylikely to occur could materially impact the financial statements.  We believe that the estimates, assumptionsand judgments involved in revenue recognition, receivables and allowances fordoubtful accounts, accruals including third party commissions payable,restructuring liabilities, litigation and other contingencies, stock-basedcompensation, product warranty, variable interest entities, inventories,deferred costs, research and development and capitalized software developmentcosts, income taxes, impairment of intangible assets and long-lived assets, andvaluation and impairment of investments have the greatest potential impact onour Condensed Consolidated Financial Statements, so we consider these to be ourcritical accounting policies.  Managementbelieves that there have been no significant changes during the three monthsended March 31, 2009 to the items that we disclosed as our criticalaccounting policies and estimates in Management’s Discussion and Analysis ofFinancial Condition and Results of Operations in our Annual Report on Form 10-Kfor the year ended December 31, 2008.

 

**RECENTACCOUNTING PRONOUNCEMENTS**

 

For a description of thenew accounting standards that affect us, see Note 2 of Notes to ourCondensed Consolidated Financial Statements included under Part I,Item 1 of this Quarterly Report on Form 10-Q.

 

**RESULTSOF OPERATIONS**

 

To align thebusiness units with our corporate strategy to focus on core businesses, on July 1, 2008 we soldPCD to PCD LLC (see Note 3 of Notes to our Condensed ConsolidatedFinancial Statements included under Part I, Item 1 of this QuarterlyReport on Form 10-Q).  Prior to July 1,2008, PCD sold and supported handsets other than PAS handsets, mainly in theUnited States, Included in the Other segment are Mobile Solutions BusinessUnit (“MSBU”) and Custom Solutions business unit (“CSBU”).  On July 31, 2008, we sold MSBU which wasresponsible for the development, sales and service of our wireless IPCDMA/IPGSMproduct line. In the first quarter of 2009, we completed the wind-down of CSBUand the consolidation of voice messaging technology into our MultimediaCommunications segment. CSBU historically had been responsible for thedevelopment, sales and service of other non-core products. As a result of thesechanges we revised our internal reporting structure, operating segments andreporting segments.

 

Effective January 1,2009, the new reporting segments are as follows:

 

·                  MultimediaCommunications—Focused on development and market opportunities in IPTVsolutions and Wireless infrastructure technologies.

 

·                  BroadbandInfrastructure—Focused on our world class portfolio of broadband products.

 

·                  Handsets—Focused on mobilephone business with continued focus on the PAS and CDMA handset market, as wellas data cards markets. Handset sales to PCD LLC, which commenced after theJuly 1, 2008 sale of PCD, are included in this segment.

 

·                  Services—Focused onproviding services and support of our Broadband Infrastructure and MultimediaCommunications product lines.

 

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**NET SALES**

 
| ** **                 | ** ** | **Three months ended March 31,** | ** **    |
|----------------------------|------------|---------------------------------------|---------------|
| ** **                 | ** ** | **2009**                              | ** **    | **% of net  sales** | ** ** | **2008** | ** ** | **% of net  sales** | ** ** |
| ** **                 | ** ** | **(in thousands)**                    | ** **    |
| ***Net Sales by Segment*** |       |                                  |          |   |   |   |   |   |   |
| Multimedia Communications  |       | $                                     | 34,033        |   | 28 | % | $ | 67,446 |   | 12 | % |
| Broadband Infrastructure   |       | 15,419                                |          | 13 | % | 25,590 |   | 4 | % |
| Handsets                   |       | 56,060                                |          | 47 | % | 44,023 |   | 8 | % |
| Services                   |       | 13,828                                |          | 12 | % | 11,091 |   | 2 | % |
| PCD                        |       | —                                |          | — |   | 430,724 |   | 73 | % |
| Other                      |       | —                                |          | — |   | 7,115 |   | 1 | % |
|                       |       | $                                     |  119,340 |   | 100 | % | $ | 585,989 |   | 100 | % |

** **
| ** **                | ** ** | **Three months ended March 31,** | ** ** |
|---------------------------|------------|---------------------------------------|------------|
| ** **                | ** ** | ** **                            | ** ** | **% of net** | ** ** | ** ** | ** ** | **% of net** | ** ** |
| ** **                | ** ** | **2009**                              | ** ** | **sales** | ** ** | **2008** | ** ** | **sales** | ** ** |
| ** **                | ** ** | **(in thousands)**                    | ** ** |
| ***Net Sales by region*** |       |                                  |       |   |   |   |   |   |   |
| United States             |       | $                                     | 41,259     |   | 35 | % | $ | 421,863 |   | 72 | % |
| China                     |       | 51,219                                |       | 43 | % | 117,122 |   | 20 | % |
| Other                     |       | 26,862                                |       | 22 | % | 47,004 |   | 8 | % |
| Net sales                 |       | $                                     | 119,340    |   | 100 | % | $ | 585,989 |   | 100 | % |

 

*Threemonths ended March 31, 2009 and 2008*

 

Net sales decreased by80% to $119.3 million during the three months ended March 31, 2009compared to the same period in 2008. The decrease was primarily due to disposalof PCD and MSBU in 2008 and disbandment of the operations formerly included inthe Other segment in the first quarter of 2009. The PCD and Other segments accounted for $437.8 million of thedecrease.  Net sales for the segmentsother than the PCD and Other decreased by $28.8 million or 19%.  Multimedia Communications net sales decreasedby $33.4 million, or 50%, for the three months ended March 31, 2009compared to the same period in 2008, mainly due to continued weakening demandfor our PAS Infrastructure products partially offset by increased sales in ourIPTV and STB products. Broadband Infrastructure segment net sales decreased by$10.2 million or 40% for the three months ended March 31, 2009 compared tothe same period in 2008 mainly due to decrease in CPE and MSAN sales.  Handsets segment net sales increased by $12.0million, or 27%, in the first quarter of 2009 primarily due to increase of CDMAhandset sales to PCD LLC during the three months ended March 31, 2009 partiallyoffset by declines of our PAS handsets sales.

 

For additionaldiscussion, see the “Segment Reporting” section of this Item 2.

 

The economic uncertainty that we are operating in today could adverselyimpact our business. However, the majority of our business is based in Chinaand India—two countries that are still projected to have economic growth in2009.  In 2009 and beyond, we expect thatnew orders for PAS handsets and infrastructure equipment will continue todecline due to the China telecommunications industry restructuring as well asincreased pricing pressures. We expect our CDMA and TD-SCDMA handsets willpositively contribute to our revenue and partially offset the decline of ourPAS business. In order to capitalize on the growing data business in China, inmid-2009 we also plan to introduce HSDPA (“High Speed Downlink Packet Access”)data cards supported by TD-SCDMA networks which we expect to have relativelyhigher gross margins and average selling prices. However, we do not anticipatethat these sales will fully offset the expected decline in PAS handsets andinfrastructure sales. We currently offer and have initial market acceptance ofour IPTV products in China, India, Taiwan and other geographic regions. Webelieve that the IPTV market presents a meaningful growth opportunity in theseregions as well as other regions where we have targeted to expand ourIPTV offerings.

 

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**GROSSPROFIT**

 
| ** **                    | ** ** | **Three months ended March 31,** | ** ** |
|-------------------------------|------------|---------------------------------------|------------|
| ** **                    | ** ** | **2009**                              | ** ** | **Gross  profit %** | ** ** | **2008** | ** ** | **Gross  profit %** | ** ** |
| ** **                    | ** ** | **(in thousands)**                    | ** ** |
| ***Gross profit by Segment*** |       |                                  |       |   |   |   |   |   |   |
| Multimedia Communications     |       | $                                     | 10,554     |   | 31 | % | $ | 33,156 |   | 49 | % |
| Broadband Infrastructure      |       | 1,620                                 |       | 11 | % | 2,221 |   | 9 | % |
| Handsets                      |       | 6,302                                 |       | 11 | % | 16,215 |   | 37 | % |
| Services                      |       | 3,176                                 |       | 23 | % | 2,319 |   | 21 | % |
| PCD                           |       | —                                |       | — |   | 32,836 |   | 8 | % |
| Other                         |       | —                                |       | — |   | 5,332 |   | 75 | % |
|                          |       | $                                     | 21,652     |   | 18 | % | $ | 92,079 |   | 16 | % |

 

Cost of sales consistsprimarily of material and labor costs, including stock-based compensation,associated with manufacturing, assembly and testing of products, costsassociated with installation and customer training, warranty costs, fees toagents, inventory write-downs and overhead. Cost of sales also includes importtaxes and tariffs on components and assemblies. Some components and materialsused in our products are purchased from a single supplier or a limited group ofsuppliers and, in some cases, are subject to obtaining Chinese import permitsand approvals. We also rely on third party manufacturers to manufacture andassemble most of our CDMA handsets.

 

Our gross profit has beenaffected by average selling prices, material costs, product mix, the impact ofwarranty charges and contract loss provisions as well as inventory reserves andrelease of deferred revenues and related cost pertaining to prior years. Ourgross profit, as a percentage of net sales, varies among our product families.We expect that our overall gross profit, as a percentage of net sales, willfluctuate in the future as a result of shifts in product mix, stage of productlife cycle, anticipated decreases in average selling prices and our ability toreduce cost of sales.

 

*Threemonths ended March 31, 2009 and 2008*

 

Gross profit was$21.7 million, or 18% of net sales, in the three months ended March 31,2009, compared to $92.1 million, or 16% of net sales, in the correspondingperiod of 2008. The overall gross profit decrease in absolute dollars wasprimarily due to the disposal of PCD and MSBU in 2008 and disbandment of theoperations formerly included in the Other segment in the first quarter of 2009as well as the decrease in sales of the higher margin Multimedia Communicationsproducts.  PCD and Other segments inaggregate accounted for $38.2 million decrease in gross profit for the firstquarter of 2009.  Gross profit for thesegments other than PCD and Other decreased by $32.3 million for the threemonths ended March 31, 2009 as compared to the corresponding period of2008.  This decrease was due to increasedlower margin CDMA handset sales to PCD LLC, decrease in sales and additionalinventory reserves for both the Multimedia Communications and Broadband Infrastructuresegment during the first quarter of 2009, partially offset by an $8.5 milliondecrease to cost of sales in the Handsets segment resulting from theamortization of the Marvell supply agreement (See Note 3 of Notes to ourCondensed Consolidated Financial Statements included under Part I, Item 1of this Quarterly Report on Form 10-Q.)  Foradditional discussion, see “Segment Reporting” section of this Item 2.

 

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**OPERATINGEXPENSES**

 

The following tablesummarizes our operating expenses:

 
| ** **                          | ** ** | **Three months ended March 31,** | ** ** |
|-------------------------------------|------------|---------------------------------------|------------|
| ** **                          | ** ** | ** **                            | ** ** | **% of net** | ** ** | ** ** | ** ** | **% of net** | ** ** |
| ** **                          | ** ** | **2009**                              | ** ** | **sales** | ** ** | **2008** | ** ** | **sales** | ** ** |
| ** **                          | ** ** | **(in thousands)**                    | ** ** |
| Selling, general and administrative |       | $                                     | 54,180     |   | 45 | % | $ | 79,744 |   | 14 | % |
| Research and development            |       | 21,508                                |       | 18 | % | 41,400 |   | 7 | % |
| Amortization of intangible assets   |       | —                                |       | — |   | 1,824 |   | 0 | % |
| Restructuring                       |       | 4,819                                 |       | 4 | % | — |   | — |   |
| Total net operating expenses        |       | $                                     | 80,507     |   | 67 | % | $ | 122,968 |   | 21 | % |

 

Selling, general andadministrative expenses (“SG&A”) include compensation and benefits,professional fees, sales commissions, provision for doubtful accountsreceivable and travel and entertainment costs. Research and development (“R&D”)expenses consist primarily of compensation and benefits of employees engaged inresearch, design and development activities, costs of parts for prototypes,equipment depreciation and third party development expenses. We believe thatcontinued and prudent investment in research and development is critical to ourlong-term success, and we will aggressively evaluate appropriate investmentlevels.  A portion of our costs are fixedand are difficult to quickly reduce in periods of lower sales.

 

*SELLING,GENERAL AND ADMINISTRATIVE*

 

*Three months ended March 31,2009 and 2008*

 

SG&A expenses were$54.2 million for the three months ended March 31, 2009, a decrease of$25.6 million as compared to $79.7 million for the same period in 2008.The decrease in SG&A expense was primarily due to an $10.7 millionreduction in legal and accounting fees as a result of reduced activity ininvestigations and litigation, an $8.0 million decrease in personnel relatedexpenses due to continuous streamlining of operations and recent cost reductionmeasures, a $7.6 million decrease in SG&A expenses related to divestedoperations, primarily PCD and MSBU, a $2.8 million savings from reduction inthe use of outside services, a $2.3 million decrease in depreciation expensedue to assets impairment write off in 2008, a $1.7 million decrease in travelrelated expenses due to reduced travel activity and cost containment efforts,and a $1.2 million reduction in advertising and marketing, sales promotions, aswell as shows and exhibits expenses due to reduced sales activities. This waspartially offset by an $8.3 million increase in the provision for doubtfulaccounts in the first quarter of 2009 compared to a recovery of doubtfulaccounts of $0.8 million in the same period of 2008 and a $2.0 million increasein provisions for contingencies.

 

*RESEARCHAND DEVELOPMENT*

 

*Threemonths ended March 31, 2009 and 2008*

 

R&D expensesdecreased by $19.9 million during the three months ended March 31,2009 compared to the same period in 2008. During the second half of 2008, we sold PCD and MSBU which resulted inaggregated R&D savings of $4.7 million for the first quarter of 2009.  In addition, the decrease was also due to a$10.0 million decrease in personnel related expenses as we continuedto transfer R&D functions from the United States to China and reducedspending in non-core business units, a $0.7 million decrease indepreciation and a $1.6 million decrease in software license and partsexpenses as we continued to streamline our operations as well as a $1.1 millionsavings from reduction in use of outside services.

 

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*AMORTIZATIONOF INTANGIBLE ASSETS*

 

*Threemonths ended March 31, 2009 and 2008*

 

There was no amortizationof intangible assets in the three months ended March, 31, 2009 compared to$1.8 million in the three months ended March 31, 2008. An impairmentcharge of $4.9 million was recorded in the fourth quarter of 2008 to fully write-offthe remaining carrying value of intangible assets at December 31, 2008.

 

*RESTRUCTURING*

 

*Threemonths ended March 31, 2009*

 

On December 16, 2008, our Board of Directors approved arestructuring plan (the “2008 Restructuring Plan”) designed to reduce operatingcosts. The plan includes, among other things, winding down our Korea basedhandset operations (“Korea Operations”) and implementing an additionalworldwide reduction in force of approximately 10% of our headcount by the endof the second quarter of 2009. On October 2, 2007, our Board of Directorsapproved a restructuring plan (the “2007 Restructuring Plan”) to reduceoperating costs, which included a worldwide reduction in force of approximately12% of our headcount. The 2007 Restructuring Plan was substantially completedduring 2008; the remaining liability of the 2007 Restructuring Plan is relatedto a lease obligation to be settled over the remaining lease term, whichexpires in fiscal year 2010.

 

In connection with the 2008 Restructuring Plan, during the fourthquarter of 2008 we incurred a restructuring charge of $13.1 millioncomprised largely of cash payments associated with one-time severance benefits.During the first quarter of 2009, we recorded an additional $4.8 million inrestructuring charges of which $4.6 million relates to the 2008 RestructuringPlan and $0.2 million relates to the 2007 Restructuring Plan. The $4.6 million of charges related to the2008 Restructuring Plan were primarily general and corporate charges notdirectly related to our core business units and included $3.4 million forseverance and benefits primarily related to the transition of certain keyfunctions, including finance, to China and $1.1 million for lease terminationcosts. Approximately 60 employees are affected by the transition of these keyfunctions to China. We expect to incur additional restructuring charges duringthe remainder of 2009 as we continue to execute the 2008 Restructuring Plan.Payment of accrued amounts related to severance and benefits aggregating $5.8million at March 31, 2009 are expected to be substantially completed bythe end of 2009, payments of $1.1 million related to lease obligationswill be settled over the remaining lease term, which expires in fiscalyear 2010.

 

**OTHER INCOME (EXPENSE)**

 

*INTERESTINCOME*

 

*Threemonths ended March 31, 2009 and 2008*

 

Interest income was$0.7 million and $2.8 million for the three months ended March 31,2009 and 2008, respectively. Interest income decreased primarily due to adecline in the average interest rate applicable to the three months ended March 31,2009 as compared to the three months ended March 31, 2008.

 

*INTERESTEXPENSE*

 

*Threemonths ended March 31, 2009 and 2008*

 

Interest expense was$0.3 million and $6.1 million for the three months ended March 31,2009 and 2008, respectively. The decrease in interest expense for the threemonths ended March 31, 2009 compared to the same period in 2008 wasattributable to the repayment of $274.6 million of convertible subordinatednotes due March 1, 2008 and $48.0 million of other bank loanrepayments during 2008.

 

*OTHER(EXPENSE) INCOME, NET*

 

*Threemonths ended March 31, 2009 and 2008*

 

Other expense, net was$7.2 million for the three months ended March 31, 2009 as compared toother income, net of $54.0 million for the three months ended March 31,2008. Other expense, net for the three months ended March 31, 2009 wasprimarily due to $7.3 million of foreign currency losses. Other income, net forthe three months ended March 31, 2008 was primarily due to a $32.4 milliongain on the sale of the Gemdale investment, a $7.3 million gain on the sale ofthe Infinera investment, an $8.2 gain on the liquidation of investment in avariable interest entity and $5.7 million of foreign currency gains.

 

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*INCOMETAX EXPENSE*

 

Income tax expense isbased upon a blended effective tax rate based upon our expectation of theamount of income to be earned in each tax jurisdiction and is accounted underthe liability method. Deferred income taxes are recognized for the differencesbetween the tax bases of assets and liabilities and their financial statementamounts based on enacted tax rates. Valuation allowances are established whennecessary to reduce deferred tax assets to the amount expected to be realized.We expect to maintain a full valuation allowance on our remaining net deferredtax assets until an appropriate level of profitability that generates taxableincome is sustained or until we are able to develop tax strategies that wouldenable us to conclude that it is more likely than not that a portion of ourdeferred tax assets will be realizable. Any reversal of valuation allowances willfavorably impact our results of operations in the period of the reversal.

 

We adopted the provisionsof FASB Interpretation No. 48, “Accounting for Uncertainty in IncomeTaxes-an interpretation of FASB Statement No. 109” (FIN 48) on January 1,2007. FIN 48 established criteria for recognizing or continuing to recognizeonly more-likely-than tax positions, which may result in income tax expensevolatility in future periods. While we believe that we have adequately providedfor all tax positions, amounts asserted by taxing authorities could be greaterthan our accrued position. Accordingly, additional provisions on income taxrelated matters could be recorded in the future as revised estimates are madeor the underlying matters are settled or otherwise resolved.

 

*Threemonths ended March 31, 2009 and 2008*

 

Income tax expense was$1.8 million for the three months ended March 31, 2009 compared to a taxbenefit of $5.0 million for the three months ended March 31, 2008.

 

Income tax expense forthe three months ended March 31, 2009 included a tax benefit of 2.8million related to the recognition of previously unrecognized tax benefits andthe reversal of interest and penalties due to statute of limitationsexpirations and income tax audit settlements.

 

Our income tax expensefor the first quarter of 2008 at statutory rates was $3.5 million. This amounthas been adjusted for the two items discussed below.   The China Corporate Income Tax Law (“CIT Law”)was effective on January 1, 2008. As a result of the enactment of regulations during the first quarter of2008 which addressed CIT Law, we recorded an income tax benefit of $11.7million related to reversing a deferred tax liability on foreign withholdingtaxes related to the unremitted earnings of our subsidiaries which wedetermined to not be permanently reinvested outside the United States.  We also accrued $3.2 million of foreignwithholding taxes related to the realized gain on the sale of our investment inGemdale.

 

For 2009 and 2008, wehave not provided any tax benefit on any forecasted losses incurred and taxcredits generated in the United States and other countries, because we believethat it is more likely than not that the tax benefit associated with theselosses will not be realized. Also, for 2009 and 2008, we continue to accrue taxexpense in jurisdictions where we have been historically profitable. Estimatesof the annual effective tax rate at the end of the interim periods are based onevaluations of possible future events and transactions and may be subject tosubsequent refinement or revision.

 

**SEGMENTREPORTING**

 

Summarized below are oursegment sales revenue and gross profit for the three months ended March 31,2009 and 2008, respectively.

 

***MultimediaCommunications***

 
| ** **                                | ** ** | **Three months ended March 31,** | ** ** |
|-------------------------------------------|------------|---------------------------------------|------------|
| ** **                                | ** ** | **2009**                              | ** ** | **2008** | ** ** |
| ** **                                | ** ** | **(in thousands)**                    | ** ** |
| Net sales                                 |       | $                                     | 34,033     |   | $ | 67,446 |   |
| Gross profit                              |       | $                                     | 10,554     |   | $ | 33,156 |   |
| Gross profit as a percentage of net sales |       | 31                                    | %          | 49 | % |

 

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During the three monthsended March 31, 2009, sales of Multimedia Communications segment decreasedby 50% as compared to the same period in 2008. The decrease was primarily due to the decrease in PAS equipment sales by86%, partially offset by higher IPTV and STB sales.  PAS equipment sales comprised approximately21% and 75% of our Multimedia Communications sales for the three months ended March 31,2009 and 2008, respectively.

 

The gross profitpercentage decreased to 31% for the three months ended March 31, 2009 from49% for the corresponding period in 2008. The decrease was primarily due to relatively higher inventory reservecharges related to our PAS infrastructure equipment as well as a $1.2 millionadditional inventory reserve for our NGN product.

 

We expect future PAS infrastructure spending to decline in 2009 andbeyond as China launched its 3G networks. We expect the decline in new PASinfrastructure orders will accelerate and we plan to aggressively pursueopportunities for our IPTV product portfolios and NGN products in multiplemarkets. However, we do not anticipate that these sales will fully offset theanticipated decline in PAS sales in 2009 and beyond.

 

Webelieve that the IPTV market presents a meaningful growth opportunity. Wecurrently offer and have initial market acceptance of our IPTV products inChina, India, Taiwan and other geographic regions.

 

***BroadbandInfrastructure***

 
| ** **                                | ** ** | **Three months ended March 31,** | ** ** |
|-------------------------------------------|------------|---------------------------------------|------------|
| ** **                                | ** ** | **2009**                              | ** ** | **2008** | ** ** |
| ** **                                | ** ** | **(in thousands)**                    | ** ** |
| Net sales                                 |       | $                                     | 15,419     |   | $ | 25,590 |   |
| Gross profit                              |       | $                                     | 1,620      |   | $ | 2,221 |   |
| Gross profit as a percentage of net sales |       | 11                                    | %          | 9 | % |

 

Broadband Infrastructuresales decreased by $10.2 million or 40% during the three month ended March 31,2009 as compared to the same period in 2008. The decrease was mainly due to lower MSAN and CPE sales in 2009.  Softbank in Japan, one of our largestinfrastructure customers, represented approximately 16% and 35% of totalBroadband sales during the three months ended March 31, 2009 and 2008,respectively.

 

Gross profit percentageincreased slightly in the first quarter of 2009 when compared to the sameperiod in 2008, primarily due to a decrease in provision for anticipated lossesduring the quarter on infrastructure deployment contracts partially offset byadditional inventory reserves related to our optical product.

 

We may incur additionalwarranty expense and inventory reserves as we introduce new products and may berequired to accrue additional contract losses for certain fixed price contractsas these contracts progress. These factors will result in negative impacts onour future gross margins, results of operations and financial position.

 

***Handsets***

 
| ** **                                | ** ** | **Three months ended March 31,** | ** ** |
|-------------------------------------------|------------|---------------------------------------|------------|
| ** **                                | ** ** | **2009**                              | ** ** | **2008** | ** ** |
| ** **                                | ** ** | **(in thousands)**                    | ** ** |
| Net sales                                 |       | $                                     | 56,060     |   | $ | 44,023 |   |
| Gross profit                              |       | $                                     | 6,302      |   | $ | 16,215 |   |
| Gross profit as a percentage of net sales |       | 11                                    | %          | 37 | % |

 

Net sales increased by27% for the three months ended March 31, 2009 compared to the same periodin 2008.  The increase was primarily dueto the sale of CDMA handsets to PCD LLC after the disposal of PCD in July 2008.  The sale of CDMA handsets to PCD LLCaccounted for $37.7 million of the total handset revenue for the quarter.  Our PAS handset sales declined significantlyduring the first quarter of 2009 as China moved toward the 3G networkdeployment.

 

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Gross profit as apercentage for our Handsets segment decreased from 37% for the three monthsended March 31, 2008 to 11% for the corresponding period in 2009. Thedecrease was mainly due to increased CDMA handset sales to PCD LLC which havelower profit margins, as well as additional warranty reserve recorded duringthe three months ended March 31, 2009 due to additional repairs for one ofour handset products. We incurred additional inventory reserve for our PAShandsets as we anticipated decrease in demand after China launched its 3Gnetworks.  The additional PAS handsetinventory reserve was partially offset by a decrease to cost of sales from theamortization of the Marvell supply agreement.

 

In 2009 and beyond, we expect an accelerated decline in PAS subscribersas the China telecommunication industry reorganizes and launches 3G services.We plan to develop and sell innovative CDMA and TD-SCDMA terminal productswhich will provide new user experiences and values. However, we expect our CDMAand TD-SCDMA handsets will contribute more to our revenue and partially offsetthe decline of PAS business in China. To capitalize on the growing databusiness in China, in mid-2009, we also plan to introduce HSDPA data cardssupported by TD-SCDMA networks which we expect to have relatively higher grossmargins and average selling prices. In addition, we expect to continue to focuson product cost reduction efforts through supply chain improvements and R&Dimprovements, including outsourcing part of our product development.

 

***Services***

 
| ** **                                | ** ** | **Three months ended March 31,** | ** ** |
|-------------------------------------------|------------|---------------------------------------|------------|
| ** **                                | ** ** | **2009**                              | ** ** | **2008** | ** ** |
| ** **                                | ** ** | **(in thousands)**                    | ** ** |
| Net sales                                 |       | $                                     | 13,828     |   | $ | 11,091 |   |
| Gross profit                              |       | $                                     | 3,176      |   | $ | 2,319 |   |
| Gross profit as a percentage of net sales |       | 23                                    | %          | 21 | % |

 

Our Services segment’srevenue increased by 25% for the three months ended March 31, 2009 ascompared to the corresponding quarter last year.  The increase was mainly due to the increasein both international and China sales resulting from increasedservice contracts for maintenance services and value added services

 

Gross profit increasedfrom 21% for the three months ended March 31, 2008 to 23% for thecorresponding period in 2009.  Theincrease was primarily due to overall cost reduction efforts in both China andInternational service divisions.

 

***Personal Communication Devices (PCD)***

 
| ** **                                | ** ** | **Three months ended March 31,** | ** ** |
|-------------------------------------------|------------|---------------------------------------|------------|
| ** **                                | ** ** | **2009**                              | ** ** | **2008** | ** ** |
| ** **                                | ** ** | **(in thousands)**                    | ** ** |
| Net sales                                 |       | $                                     | —     |   | $ | 430,724 |   |
| Gross profit                              |       | $                                     | —     |   | $ | 32,836 |   |
| Gross profit as a percentage of net sales |       | —                                |       | 8 | % |

 

On July 1, 2008, wesold our PCD operations (See Note 3 of Notes to our Condensed ConsolidatedFinancial Statements included under Part I, Item 1 of this QuarterlyReport on Form 10-Q).

 

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***Other***

 
| ** **                                | ** ** | **Three months ended March 31,** | ** ** |
|-------------------------------------------|------------|---------------------------------------|------------|
| ** **                                | ** ** | **2009**                              | ** ** | **2008** | ** ** |
| ** **                                | ** ** | **(in thousands)**                    | ** ** |
| Net sales                                 |       | $                                     | —     |   | $ | 7,115 |   |
| Gross profit                              |       | $                                     | —     |   | $ | 5,332 |   |
| Gross profit as a percentage of net sales |       | —                                |       | 75 | % |

 

OurOther segment consists of Mobile Solutions (“MSBU”) and Custom Solutions (“CSBU”)business units.  We disposed our MSBU unit in July 2008and completed the disbandment of the CSBU unit in the first quarter of2009.  The remaining IP Messaging productline has been integrated into the Multimedia Communication segment andremaining services related contracts have been integrated into the Servicesegment.

 

**RELATEDPARTY TRANSACTIONS**

 

*Softbankand affiliates*

 

We recognize revenue withrespect to sales of telecommunications equipment to affiliates of Softbank, a significantstockholder of the Company. Softbank offers ADSL coverage throughout Japan,which is marketed under the name “YAHOO! BB.” We support Softbank’sfiber-to-the-home service through sales of its carrier class GEPON product aswell as its NetRingÔ product. In addition, we supportSoftbank’s new internet protocol television (“IPTV”), through sales of itsRollingStreamÔ product. During the three months ended March 31,2009 and 2008, we recognized revenue of $6.2 million and $11.8 million,respectively, for sales of telecommunications equipment and services toaffiliates of Softbank.

 

Included in accountsreceivable at March 31, 2009 and December 31, 2008 were $6.4 millionand $9.2 million, respectively, related to these transactions. We hadimmaterial amounts of accounts payable to Softbank and its affiliates at March 31,2009 and December 31, 2008.

 

Sales to Softbank includea three year service period and a penalty clause if product failure ratesexceed a certain level over a seven year period. As of March 31, 2009 and December 31,2008, our customer advance balance related to Softbank agreements was $0.2million and $0.7 million, respectively. The current deferred revenue balance related to Softbank was $2.1million and $4.0 million as of March 31, 2009 and December 31, 2008,respectively.  As of March 31, 2009,our noncurrent deferred revenue balance related to Softbank was $9.1millioncompared to $9.2 million as of December 31, 2008.

 

As of March 31,2009, Softbank beneficially owned approximately 12% of our outstanding stock.

 

**LIQUIDITYAND CAPITAL RESOURCES**

 

**Liquidity and Capital Resources**

 

The following sections discuss the effects ofchanges in our balance sheet and cash flows, contractual obligations and othercommitments on our liquidity and capital resources.

 

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***Balance Sheet and Cash Flows***

 

Cashand Cash Equivalents and Short-term Investments

 
| ** **                          | ** ** | **March 31,** | ** ** | **December 31,** | ** ** | ** ** | ** ** |
|-------------------------------------|------------|--------------------|------------|-----------------------|------------|------------|------------|
| ** **                          | ** ** | **2009**           | ** ** | **2008**              | ** ** | **Change** | ** ** |
| ** **                          | ** ** | **(in thousands)** | ** ** |
|                                |       |               |       |                  |       |       |       |
| Cash and cash equivalents           |       | $                  | 299,570    |                  | $          | 309,603    |       | $ | (10,033 | ) |
| Short-term investments - Bank notes |       | 964                |       | 4,262                 |       | (3,298     | )          |
| Total                               |       | $                  | 300,534    |                  | $          | 313,865    |       | $ | (13,331 | ) |

 
| ** **                                                   | ** ** | **Three months ended March 31,** | ** ** |
|--------------------------------------------------------------|------------|--------------------------------------------|------------|
| ** **                                                   | ** ** | **2009**                                   | ** ** | **2008** | ** ** | **Change** | ** ** |
| ** **                                                   | ** ** | **(in thousands)**                         | ** ** |
| Cash (used in) provided by operating activities              |       | $                                          | (12,007    | ) | $ | 92,734 |   | $ | (104,741 | ) |
| Cash provided by investing activities                        |       | 4,600                                      |       | 45,890 |   | (41,290 | ) |
| Cash used in financing activities                            |       | (163                                       | )          | (286,388 | ) | 286,225 |   |
| Effect of exchange rate changes on cash and cash equivalents |       | (2,463                                     | )          | 8,797 |   | (11,260 | ) |
|                                                         |       |                                       |       |   |   |   |   |
| Net decrease in cash and cash equivalents                    |       | $                                          | (10,033    | ) | $ | (138,967 | ) | $ | 128,934 |   |

 

Cash and cash equivalents, consistingprimarily of bank deposits and money market funds, are recorded at cost whichapproximates fair value because of the short-term nature of theseinstruments. At March 31,2009, cash and cash equivalents approximating $192.8 million was held by oursubsidiaries in China.

 

Cashused in operating activities during the three months ended March 31, 2009of $12.0 million resulted primarily from the net loss of $67.4 million offsetby non-cash charges including $3.5 million of depreciation and amortization,$4.1 million stock-based compensation and $8.3 million provision for doubtfulaccounts and also offset by changes in net operating assets and liabilitiesproviding net cash of $39.7 million.  Thedecrease in sales activity in the first quarter of 2009 was the primary driverof the changes in operating assets and liabilities.  Cash from operations benefited $54.9 millionfrom a decrease in accounts receivable, $8.3 million from a decrease ininventory and deferred costs, and $38.0 million from a decrease in otherassets, offset partially by a decrease in accounts payable using cash of $66.2million.   Cash provided by operating activities duringthe three months ended March 31, 2008 of $92.7 million was significantlyimpacted by changes in net operating assets and liabilities providing net cashof $112.7 million, primarily as a result of management of working capital inthe first quarter of 2008 in preparation for the repayment of the convertiblesubordinated notes due March 31, 2008.

 

Cash provided by investing activities during thethree months ended March 31, 2009 of $4.6 million included net proceedsfrom the sale of short-term investments of $3.3 million and changes inrestricted cash of $2.1 million, offset partially by cash outflows including$1.1 million for purchases of property, plant and equipment. Net cash provided by investingactivities for the three months ended March 31, 2008 totaled$45.9 million. Cash of $58.7 million was received from the proceedsof the sale of short-term investments and $7.7 million was the net cashprovided by the repayment of a loan by a variable interest entity. Cashoutflows from investing activities included $8.5 million for the purchase ofshort-term and long-term investments, $7.6 million for the purchase ofproperty, plant and equipment and $4.5 million was the result of an increase inrestricted cash, primarily to collateralize letters of credit.

 

Cash used in financingwas $0.2 million during the three months ended March 31, 2009. Net cashused in financing activities was $286.4 million during the three monthsended March 31, 2008, primarily due to the repayment of the convertiblesubordinated notes of $274.6 million due March 1, 2008.

 

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Accounts Receivable, Net

 

The followingtable summarizes our accounts receivable, net (in thousands, except DSO):

 
| ** **                                                                     | ** ** | **March 31,** | ** ** | **December 31,** | ** ** | **Increase**   | ** ** |
|--------------------------------------------------------------------------------|------------|--------------------|------------|-----------------------|------------|----------------|------------|
| ** **                                                                     | ** ** | **2009**           | ** ** | **2008**              | ** ** | **(Decrease)** | ** ** |
| ** **                                                                     | ** ** | ** **         | ** ** | ** **            | ** ** | ** **     | ** ** |
| Accounts receivable, net                                                       |       | $                  | 88,423     |                  | $          | 149,210        |       | $ | (60,787 | ) |
| Accounts receivable, related parties                                           |       | 6,415              |       | 9,166                 |       | (2,751         | )          |
| Total accounts receivable                                                      |       | $                  | 94,838     |                  | $          | 158,376        |       | $ | (63,538 | ) |
|                                                                           |       |               |       |                  |       |           |       |
| Days sales outstanding in accounts receivable (“DSO”), excluding PCD |       | 72                 |       | 75                    |       | (3             | )          |

 

Accounts receivabledecreased $63.5 million primarily due to the decrease in sales in the firstquarter of 2009 as well as the continued focus on working capital management.During the three months ended March 31, 2009, we recorded approximately$8.3 million provision for doubtful accounts. DSO, calculated excluding PCD,decreased slightly to 72 days at March 31, 2009 from 75 days at December 31,2008.

 

Inventories andDeferred Costs

 

The followingtable summarizes our inventories and deferred costs:

 
| ** **                | ** ** | **March 31,** | ** ** | **December 31,** | ** ** | **Increase**   | ** ** |
|---------------------------|------------|--------------------|------------|-----------------------|------------|----------------|------------|
| ** **                | ** ** | **2009**           | ** ** | **2008**              | ** ** | **(Decrease)** | ** ** |
| ** **                | ** ** | **(in thousands)** | ** ** |
| Inventories:              |       |               |       |                  |       |           |       |
| Raw materials             |       | $                  | 8,488      |                  | $          | 15,545         |       | $ | (7,057 | ) |
| Work in-process           |       | 5,288              |       | 33,524                |       | (28,236        | )          |
| Finished goods            |       | 147,229            |       | 122,238               |       | 24,991         |       |
| Total inventories         |       | $                  | 161,005    |                  | $          | 171,307        |       | $ | (10,302 | ) |
|                      |       |               |       |                  |       |           |       |
| Short-term deferred costs |       | $                  | 135,726    |                  | $          | 133,409        |       | $ | 2,317 |   |
| Long-term deferred costs  |       | $                  | 142,246    |                  | $          | 149,258        |       | $ | (7,012 | ) |

 

Inventories consist ofproduct held at our manufacturing facility and warehouses, as well as finishedgoods at customer sites for which the customer has taken possession, but basedon specific contractual terms, title has not yet passed to the customer.Deferred costs consist of product shipped to the customer where the rights andobligations of ownership have passed to the customer, but revenue has not yetbeen recognized.

 

Debt

 

Wehad no bank loans outstanding at March 31, 2009. At March 31,2009, our primary source of available credit was a series of creditfacilities in China. These credit facilities provide uncollateralized lines ofcredit totaling $131.7 million of which $43.9 million was available for workingcapital draws and $87.8 million for the issuance of letters of credit andcorporate guarantees (“non-working capital draws”) at March 31, 2009.These credit facilities provide an additional $190.2 million in additionalborrowing availability subject to collateralization, of which $117.1 millionwas available for working capital draws and $73.1 million was available fornon-working capital draws at March 31, 2009. At March 31, 2009, wehad approximately $293.8 million available for future borrowings on these Chinacredit facilities, of which an aggregate of $161.0 million remained availablefor general working capital purposes and $132.8 million remained available insupport of letters of credit and corporate guarantees.  Approximately $263.4 million of thesefacilities expire during the third quarter of 2009 and approximately $58.5million of these lines expire in the fourth quarter of 2009.

 

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 Our available lines of credit in China are nowsignificantly less than what has been available to us historically and, if notrenewed, expire within the next 12 months. During the fourth quarter of 2007, credit facilities in China in theaggregate amount of approximately $481.7 million matured or wereextinguished. While we were able to renew approximately $263.4 million of theselines of credit during the third quarter of 2008, and an additional $58.5million of these lines of credit during the first quarter of 2009, borrowingsabove a certain threshold now require collateralization of our real property inChina and each borrowing under the credit facilities is subject to the bank’sthen current favorable opinion of the credit worthiness of our Chinasubsidiaries, as well as the bank having funds available for lending and otherChinese banking regulations and practices. Furthermore, we have not previouslyutilized collateralized credit lines in China, and it is uncertain whetherthese collateralized credit lines would be readily available to us.  The most significant factor resulting in thedecrease in our currently available lines of credit in China is the reducedprofitability of our China domiciled subsidiaries. We also believe that thedecrease in our currently available lines of credit in China is the result ofrecent changes in banking practices in China which has resulted in the grantingof lines of credit by China banks more in line with U.S. and internationalcredit underwriting practices. Upon expiration in second half of 2009, wecannot be certain that additional lines of credit will be available to us oncommercially reasonable terms or at all.

 

***Liquidity***

 

We incurred net losses of $150.3 million, $195.6 million and $117.3million during the years ended December 31, 2008, 2007 and 2006,respectively. During the three months ended March 31, 2009 we incurred anet loss of $67.4 million. We recorded operating losses in 16 of the 17consecutive quarters in the period ended March 31, 2009. At March 31,2009 we had an accumulated deficit of $908.9 million. We incurred net cashoutflows from operations of $55.2 million and $225.1 million in 2008 and 2007respectively. Cash used in operations was $12.0 million during the three monthsended March 31, 2009.  At March 31,2009, we had cash and cash equivalents of $299.6 million in the aggregate tomeet the Company’s liquidity requirements of which $192.8 million was held byour subsidiaries in China. China imposes currency exchange controls ontransfers of funds from China.  We expectto continue to incur losses and negative cash flows from operations over atleast the remainder of 2009.

 

OurChina subsidiaries paid an aggregate $150 million in dividends to our U.S.parent company during the year ended December 31, 2007 and another$100 million in February 2008. While these cash transfers are offsetand eliminated in preparing our consolidated cash flow statements, they havebeen a principal source of funding of our non-China operations during theperiods in which they were made. In February 2009, our China subsidiariespaid an additional $50 million in dividends to our U.S. parent company, andadditional cash dividends from our China based subsidiaries to the U.S. parentcompany may be necessary to fund our non-China cash requirements in 2009.However, going forward, the amount of cash available for transfer from theChina subsidiaries will be limited both by the liquidity needs of thesubsidiaries in China and by Chinese-government mandated requirements includingcurrency exchange controls on transfers of funds outside of China.

 

Currently, our onlycommitted credit sources are our credit facilities in China. At March 31,2009, the credit facilities aggregated $321.9 million, of which $161.0 millionwas available for working capital purposes and the remaining $160.9 million wasrestricted for use in trade financing. The credit facilities do not requirecompliance with any financial covenants, but they do require collateralizationfor working capital draws in excess of $43.9 million or trade financing drawsin excess of $87.8 million. The bank providing our principal credit line addedthe requirement that borrowings above these amounts be secured by ourmanufacturing, research and development, and administrative offices facility inHangzhou, China when this credit line was renewed during the third quarter of2008; at March 31, 2009, $293.8 million of the total credit facilitiesremained available under our credit agreements and usage of the principalcredit line had not reached levels that would require collateral. Furthermore,each borrowing under the credit facilities are subject to the banks’ thencurrent favorable opinion of the credit worthiness of our China subsidiaries,the banks having funds available for lending, and other Chinese bankingregulations. Approximately $263.4 million of these facilities expire during thethird quarter of 2009 and approximately $58.5 million of these lines expire inthe fourth quarter of 2009 and, based upon our recent financial performance andfinancial position, we believe the bank may reduce the total available creditunder this facility when we negotiate its renewal. Accordingly, we cannot becertain that borrowings under our credit facilities in China will be adequateto meet our financing requirements.

 

In 2008, we took a numberof actions to improve our liquidity. In March 2008 we paid $289.5million to retire our convertible subordinated notes and related accruedinterest. In July 2008 we completed the sale of PCD for proceeds of $219.1million. In addition, we divested out Mobile Solutions Business Unit in July 2008.In the fourth quarter of 2008, management initiated actions to disband ourCustoms Solutions Business Unit and to wind down our Korea based handsetoperations. As a result of these actions and other restructuring initiativesundertaken by the management, our year-to-year quarterly selling, general andadministrative and research and development operating expenses decreased 38% inthe first quarter of 2009 compared with the first quarter of 2008. In December 2008,management announced further initiatives including efforts to eliminate functionalduplications by consolidation of a number of key functions into our Chinaoperations. Management believes that these initiatives, if executedsuccessfully, will help achieve significant operating expense reductions by thefourth quarter of 2009 and enable our fixed cost base to be better aligned withoperations, market demand and projected sales levels, which management expectswill increase significantly in the latter half of 2009 as compared to the firsttwo quarters of 2009.  Uncertainties about sales levels that may beachieved in 2009 are heightened by recent market turmoil and the globaleconomic downturn.  If the level of sales anticipated by our financialplan does not materialize, we will need to take further actions to reduce costsand expenses or explore other cost reduction options.

 

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Management believes thatif we are able to achieve projected sales levels in 2009 and contain expensesand cash used in operations to levels contemplated in our 2009 financial plan,both our China and non-China operations will have sufficient liquidity tofinance working capital and capital expenditure needs during the next 12months. If we are not able to execute our 2009 financial plan successfully, wemay need to obtain funds from equity or debt financings. There can be noassurance that additional financing, if required, will be available on termssatisfactory to us or at all, and if funds are raised in the future throughissuance of preferred stock or debt, these securities could have rights,privileges or preference senior to those of the our common stock and newlyissued debt could contain debt covenants that impose restrictions on the ouroperations. Further, any sale of newly issued debt or equity securities couldresult in additional dilution to our current shareholders.

 

Recently, globaleconomies have experienced a significant downturn driven by a financial and creditcrisis that will continue to challenge such economies for some period of time.Under the current macroeconomic environment there are significant risks anduncertainties inherent in management’s ability to forecast future results. Theoperating environment confronting us, both internally and externally, raisessignificant uncertainties. While improvements in our operating results, cashflows and liquidity are anticipated as our 2009 financial plan and management’sinitiatives to control and reduce costs while maintaining and growing ourrevenue base are fully implemented, our recurring losses and expected negativecash flows from operations raise substantial doubt about the our ability tocontinue as a going concern. Our independent registered public accountingfirm included an explanatory paragraph highlighting this uncertainty in its “Reportof Independent Registered Public Accounting Firm” dated March 2, 2009included in “Part II, Item 8-Financial Statements and Supplementary Data”in our Annual Report on Form 10-K for the year ended December 31,2008. Theconsolidated financial statements do not include any adjustments relating tothe recoverability and classification of recorded assets amounts or the amountsand classification of liabilities or any other adjustments that may benecessary if the entity is unable to continue as a going concern.

 

***Income taxes***

 

TheChina Corporate Income Tax Law (“CIT Law”) became effective on January 1,2008.  Under the CIT Law, China’s dualtax system for domestic enterprises and foreign investment enterprises (“FIEs”)was effectively replaced by a unified system. The new law establishes a tax rate of 25% for most enterprises and areduced tax rate of 15% for certain qualified high technology enterprises.

 

Priorto this change in tax law, certain subsidiaries and joint ventures located inChina enjoyed tax benefits in China which were generally available toFIEs.   The tax holidays/incentives forFIEs were applicable or potentially applicable to UTStarcom ChongQing TelecomCo. Ltd. (“CUTS”), UTStarcom Telecom Co., Ltd. (“HUTS”) and UTStarcom ChinaCo., Ltd. (“UTSC”), our active subsidiaries in China, as those entities mayqualify as accredited technologically advanced enterprises.

 

The CIT Law targets certain industries for the reduced 15% tax rate forcertain qualified high technology enterprises.    For FIEs established before thepromulgation of the new law who had previously enjoyed lower tax rates, anyincrease in their tax rates would be gradually phased in over five years.  During the fourth quarter of 2008, two of ourChina subsidiaries, HUTS and UTSC, were approved for the reduced 15% tax rate.The approval lasts for three years and is retroactive to January 1, 2008.

 

The Chinese central government may review and audit tax benefitsgranted by local or provincial authorities and could determine to disallow suchbenefits. Certain of our subsidiaries and joint ventures located in China enjoytax benefits in China that are generally available to foreign investment enterprises.If these tax benefits are reduced, disallowed or repealed due to changes in taxlaws or determination by the Chinese government, our businesscould suffer.

 

***Off-balance sheet arrangements***

 

At March 31, 2009,we do not have any off-balance sheet arrangements.

 

***Contractualobligations and other commitments***

 

Our obligations undercontractual obligations and commercial commitments at March 31, 2009 wereas follows:

 
| ** **           | ** ** | **Payments Due by Period** | ** ** |
|----------------------|------------|----------------------------|------------|
| ** **           | ** ** | **Total**                  | ** ** | **Less than  1 year** | ** ** | **1-3  years** | ** ** | **3-5  years** | ** ** | **More than  5 years** | ** ** |
| ** **           | ** ** | **(in thousands)**    | ** ** |
| Operating leases     |       | $                          | 16,892     |   | $ | 9,723 |   | $ | 5,466 |   | $ | 1,703 |   | $ | — |   |
| Letters of credit    |       | $                          | 51,050     |   | $ | 35,525 |   | $ | 15,525 |   | $ | — |   | $ | — |   |
| Purchase commitments |       | $                          | 941        |   | $ | 941 |   | $ | — |   | $ | — |   | $ | — |   |

 

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*Operating leases*

 

We lease certainfacilities under non-cancelable operating leases that expire at various datesthrough 2013.

 

*Letters of credit*

 

We issue standby lettersof credit primarily to support international sales activities outside of Chinaand in support of purchase commitments. When we submit a bid for a sale, oftenthe potential customer will require that we issue a bid bond or a standbyletter of credit to demonstrate our commitment through the bid process. Inaddition, we may be required to issue standby letters of credit as guaranteesfor advance customer payments upon contract signing or performance guarantees.The standby letters of credit usually expire six to twelve months from date ofissuance without being drawn by the beneficiary thereof.

 

*Purchase commitments*

 

Weare obligated to purchase raw materials and work-in-process inventory undervarious orders from various suppliers, all of which should be fulfilled withoutadverse consequences material to our operations or financial condition.Purchase commitments in the table above exclude agreements that are cancelablewithout penalty. We had cancelable purchase commitments approximating$73.3 million at March 31, 2009.

 

*Intellectual property*

 

Certain sales contractsinclude provisions under which customers would be indemnified by us in theevent of, among other things, a third-party claim against the customer forintellectual property rights infringement related to our products. There are nolimitations on the maximum potential future payments under these guarantees. Wehave not accrued any amounts in relation to these provisions as no such claimshave been made and we believe we have valid enforceable rights to theintellectual property embedded in our products.

 

*Uncertain tax positions*

 

Effective January 1,2007, we adopted the provisions of FIN 48.  As of March 31, 2008, wehad $67.0 million of gross unrecognized tax benefits. If recognized, theportion of gross unrecognized tax benefits that would decrease the provisionfor income taxes and increase our net income is $57.6 million. The impact onnet income reflects the gross unrecognized tax benefits net of certain deferredtax assets and the federal tax benefit of state income tax items totaling $9.4million. We have not included these amounts in the table of contractualobligations and commercial commitments because of the difficulty in makingreasonably reliable estimates of the timing of cash settlements with therespective taxing authorities.

 

*Third Party Commissions*

 

The Company recordsaccruals for commissions payable to third parties in the normal course ofbusiness.  Such commissions are recorded based on the terms of thecontracts between the Company and the third parties and paid pursuant to suchcontracts.  Consistent with our accounting policies, these commissions arerecorded as operating expense in the period in which the liability isincurred.  As of March 31, 2009, approximately $6.8 million of suchaccrued commissions had not been claimed by the third parties for more thanthree years.  Management has performed, and continues to perform,follow-up procedures with respect to these accrued commissions. Upon completionof such follow-up procedures, if the accrued commissions have not been claimedand the statute of limitations, if any, has expired or a reasonable period oftime has elapsed, the Company will reverse such accruals. Such reversals willbe recorded in the Statement of Operations during the period managementdetermines that such accruals are no longer necessary. During the three monthsended March 31, 2009 and 2008, no accruals related to third partycommissions were reversed.

 

**ITEM3—QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISKS**

 

We are exposed to theimpact of interest rate changes, changes in foreign currency exchange rates andchanges in the stock market.

 

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***Interest RateRisk***

 

Our exposure to market risk for changes in interest rates relatesprimarily to our investment portfolio. The fair value of our investment portfoliowould not be significantly affected by either a 10% increase or decrease ininterest rates due mainly to the short term nature of most of our investmentportfolio. However, our interest income can be sensitive to changes in thegeneral level of U.S and China interest rates since the majority of our fundsare invested in instruments with maturities of less than one year. In adeclining interest rate environment, as short term investments mature,reinvestment occurs at less favorable market rates. Given the short term natureof certain investments, anticipated declining interest rates will negativelyimpact our investment income.

 

We maintain an investment portfolio of various holdings, types andmaturities. We do not use derivative financial instruments. We place our cashinvestments in instruments that meet high credit quality standards, asspecified in our investment policy guidelines. Our policy is to limit the riskof principal loss and to ensure the safety of invested funds by generallyattempting to limit market risk. Funds in excess of current operatingrequirements are mostly invested in money market funds which are rated AAA. Ourcash and cash equivalents are not subject to significant interest rate risk dueto the short maturities of these instruments. As of March 31, 2009 thecarrying value of our cash and cash equivalents approximated fair value.

 

The table belowrepresents carrying amounts and related weighted-average interest rates of ourinvestment portfolio at March 31, 2009:

 

| ** **                   | ** ** | **(in thousands, except** | ** ** |
|------------------------------|------------|-------------------------------------|------------|
| ** **                   | ** ** | **interest rates)**            | ** ** |
| Cash and cash equivalents    |       | $                                   | 299,570    |   |
| Average interest rate        |       | 1.09                                | %          |
|                         |       |                                |       |
| Restricted cash - short-term |       | $                                   | 17,259     |   |
| Average interest rate        |       | 0.37                                | %          |
|                         |       |                                |       |
| Short-term investments       |       | $                                   | 964        |   |
| Average interest rate        |       | 1.49                                | %          |
|                         |       |                                |       |
| Restricted cash - long-term  |       | $                                   | 15,525     |   |
| Average interest rate        |       | 0.61                                | %          |
|                         |       |                                |       |
| Total investment securities  |       | $                                   | 333,318    |   |
| Average interest rate        |       | 1.03                                | %          |

 

***EquityInvestment Risk***

 

Our investment portfolioincludes equity investments in publicly traded companies, the values of whichare subject to market price volatility. Economic events could adversely affect the public equities market andgeneral economic conditions may worsen. Should the fair value of our publicly traded equity investments declinebelow their cost basis in a manner deemed to be other-than-temporary, ourearnings may be adversely affected.  Wehave also invested in several privately held companies as well as investmentfunds which invest primarily in privately held companies, many of which canstill be considered in the start-up or development stages.  These investments are inherently risky, asthe market for the technologies or products they have under development aretypically in the early stages and may never materialize.

 

***ForeignExchange Rate Risk***

 

As a multinationalcompany, we conduct our business in a wide variety of currencies and aretherefore subject to market risk for changes in foreign exchange rates.  We expect to continue to expand our businessglobally and, as such, expect that an increasing proportion of our business maybe denominated in currencies other than U.S. Dollars.  As a result, fluctuations in foreigncurrencies may have a material impact on our business, results of operationsand financial condition.

 

Historically,the majority of our foreign-currency denominated sales have been made in China,denominated in Renminbi. Additionally, during 2006, 2007, 2008 and through thefirst quarter of 2009, we made significant sales in Japanese Yen, Euros, IndianRupees and Canadian Dollars. Due to China’s currency exchange controlregulations, we are limited in our ability to convert and repatriate Renminbi,as well as in our ability to engage in foreign currency hedging activities inChina. The balance ofour cash and short-term investments held in China was $192.8 million at March 31,2009.  Since China un-pegged the Renminbifrom the U.S. Dollar in July, 2005, through March 31, 2009, the Renminbihas strengthened by more than 15% versus the U.S. Dollar.  However, it is uncertain what furtheradjustments may be made in the future.

 

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We may manage foreigncurrency exposures using forward and option contracts to hedge and thusminimize exposure to the risk of the eventual net cash inflows and outflowsresulting from foreign currency denominated transactions with customers,suppliers, and non-U.S. subsidiaries, however, we are not currently hedging anysuch transactions.  As our foreigncurrency balances are not currently hedged, any significant revaluation of ourforeign currency exposures may materially and adversely effect on our business,results of operation and financial condition. We do not enter into foreign exchange forward or option contracts fortrading purposes.

 

Given our exposure tointernational markets, we regularly monitor all of our material foreigncurrency exposures.  We use sensitivityanalysis to measure our foreign currency risk by computing the potentialdecrease in cash flows that may result from adverse or beneficial changes inforeign exchange rates, relative to the functional currency with all othervariables held constant.  The analysiscovers all of our underlying exposures for foreign currency denominatedfinancial instruments.  The foreigncurrency exchange rates used were based on market rates in effect at March 31,2009.  The sensitivity analysis indicatedthat a hypothetical 10% adverse or beneficial movement in exchange rates wouldhave resulted in a loss or gain in the fair values of our foreign currencydenominated financial instruments of $18.2 million at March 31, 2009.

 

**ITEM4—CONTROLS AND PROCEDURES**

 

**Evaluationof Disclosure Controls and Procedures**

 

UTStarcom, Inc.(“UTStarcom” or the “Company”) maintains disclosure controls and proceduresthat are designed to ensure that information required to be disclosed in thereports the Company files or submits under the Securities Exchange Act of 1934,as amended (“Exchange Act”), is recorded, processed, summarized and reportedwithin the time periods specified in the Securities and Exchange Commission’s(“SEC”) rules and forms, and that such information is accumulated andcommunicated to the Company’s management, including its chief executive officer(“CEO”) and chief financial officer (“CFO”), as appropriate, to allow timelydecisions regarding required financial disclosure.

 

In connection with thepreparation of this Quarterly Report on Form 10-Q (“Form 10-Q”), theCompany carried out an evaluation as of March 31, 2009 under thesupervision and with the participation of the Company’s management, includingthe CEO and CFO, of the effectiveness of the design and operation of theCompany’s disclosure controls and procedures, as such term is defined inRules 13a-15(e) and 15d-15(e) under the Exchange Act. Based uponthis evaluation, management concluded that as of March 31, 2009 theCompany’s disclosure controls and procedures were not effective because of thematerial weaknesses described in “Management’s Annual Report on InternalControl over Financial Reporting,” included in “Part II, Item 9A -Controls and Procedures” (“Item 9A”) in the Company’s Annual Report onForm 10-K for the fiscal year ended December 31, 2008 (the “2008Annual Report”), which have not yet been remediated, as well as the materialweakness described below under "Newly Identified Material Weakness inInternal Control over Financial Reporting". Investors are directed to Item9A in the 2008 Annual Report for the description of these weaknesses. Inaddition to the material weaknesses described in Item 9A in the “2008 AnnualReport, management identified a material weakness related to revenuerecognition. 

 

**NewlyIdentified Material Weakness in Internal Control Over Financial Reporting**

 

As of March 31, 2009, theCompany identified a material weakness in its internal control over financialreporting related to revenue recognition. Specifically, the Company's controlsover the recording and review of its revenue and deferred revenue accounts andassociated cost of sales were not adequate to ensure that the assessment ofrevenue recognition criteria was properly supported and that such accounts wereaccurately recorded. In particular, revenue recognition criteria were notproperly assessed with respect to certain multiple element arrangements.This control deficiency resulted inadjustments, including adjustments identified by the Company's registeredindependent public accounting firm, to the condensed consolidated financialstatements for the quarter ended March 31, 2009.

 

The materialweakness described above could result in misstatement of the Company'sconsolidated financial statements that would result in a material misstatementto the quarterly or annual consolidated financial statements that would not beprevented or detected.

 

A “material weakness” isa deficiency, or a combination of deficiencies, in internal control overfinancial reporting, such that there is a reasonable possibility that amaterial misstatement of the Company’s annual or interim financial statementswill not be prevented or detected on a timely basis. To address the materialweaknesses in internal control over financial reporting noted above, theCompany performed additional analyses and other procedures (as furtherdescribed below under “Management’s Planned Remediation Initiatives and InterimMeasures”) to ensure that the Company’s consolidated financial statements wereprepared in accordance with generally accepted accounting principles in theUnited States (“GAAP”). Accordingly, the Company’s management believes that theconsolidated financial statements included in this Form 10-Q fairlypresent in all material respects the Company’s financial condition, results ofoperations and cash flows for the periods presented and that thisForm 10-Q does not contain any untrue statement of a material fact or omitto state a material fact necessary to make the statements made, in light of thecircumstances under which such statements were made, not misleading withrespect to the periods covered by this report.

 

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**Management’sPlanned Remediation Initiatives and Interim Measures**

 

The Company plans to makenecessary changes and improvements to the overall design of its controlenvironment to address the material weaknesses in internal control overfinancial reporting noted above. In particular, the Company implemented during2008 and the first quarter of 2009, and plans to continue to implement during2009, the specific measures described below. In addition, in connection with the March 31, 2009 quarter-endreporting process, the Company has undertaken additional measures describedunder the subheading “Interim Measures” below to provide reasonable assuranceregarding the reliability of financial reporting and the preparation of theCompany’s consolidated financial statements included in this Form 10-Q andto ensure that material information relating to the Company and itsconsolidated subsidiaries was made known to management in connection with thepreparation of this Form 10-Q.

 

***RemediationInitiatives***

 

1.     To remediate the material weakness described in Item 9A in the2008 Annual Report, in “*The Company did notmaintain effective controls at its U.S. headquarters over the appropriatematching of costs of sales with revenue and the recording of reserves forlosses on customer contracts,*” the Company’s planned remediationmeasures are intended to address material weaknesses that have the potential ofmisstating these balances in the financial statements in future financialperiods. These measures include the following:

 

i.      During 2008, the Company implemented an upgrade to itsenterprise resource planning (“ERP”) system, which provided enhanced automatedfeatures and controls around the matching of cost of sales to revenue. In theremainder of fiscal 2009, we will continue to enhance the automated controlsand the review procedures over the reports generated from the ERP system.

 

ii.     In the third and fourth quarters of 2008, the Companytransitioned the responsibility for calculating the loss contract reserves toits local project office in India to facilitate enhanced coordination betweenthe local business units, operations, sales and the finance team. In theremainder of 2009, we will enhance the timeliness and quality of theinformation to enable a more effective review of the components of the lossreserve calculation by the business units, operations, sales and finance teams.In addition, corporate finance management will perform enhanced independent andtimely reviews of the loss contract reserve calculation.

 

2.     To remediate the material weakness described in Item 9A in the2008 Annual Report, in “*The Company did notmaintain effective controls at its US headquarters over the period-endfinancial reporting process*” the Company added technical resourcesto the corporate finance team in the U.S. late in the third quarter of fiscal2008. In the remainder of 2009, the Company is also planning to increasetechnical resources in China and such additional technical resources willenable the Company to broaden the scope and quality of the independent reviewsof underlying information related to the Company’s period-end financialreporting process, to standardize the processes for such financial reviews andto ensure the reviewers analyze and monitor financial information in aconsistent and thorough manner.

 

3.     To remediate the newly identified material weakness describedabove in “*The Company identified a material weakness in itsinternal control over financial reporting related to revenue recognition,*”the Company is planning in the remainder of 2009 to enhance its contractsreview process in order to ensure that appropriate members of management havereviewed and confirmed critical information necessary to assess the properrevenue recognition accounting.

 

**Interim Measures**

 

Management has not yet implemented all of the measures described aboveunder the heading “*Remediation Initiatives*”and/or tested them. Nevertheless, management believes the measures identifiedabove to the extent they have been implemented, together with other measuresundertaken by the Company in connection with the preparation of the condensedconsolidated financial statements included in this Form 10-Q and describedbelow, address the material weaknesses in internal control over financialreporting described above. These other measures include the following:

 

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1.     Analysis of the backlog report and gross margin report, as wellas extensive reviews of the reserves for losses on customer contracts, inIndia, including reviews of the inventory cost against the current cost backlogreport, and reconciliation between the local cost records to the cost recordsat the Company’s headquarters.

 

2.     A variety of manual review procedures, such as an extensivereview of journal entry postings into the ERP system, a thorough review ofaccount reconciliations, including revenue and deferred revenue accounts, and adetailed review at its U.S. headquarters of trial balances including thoseissued from decentralized locations, to ensure the completeness and accuracy ofthe underlying financial information used to generate the financial statements.

 

***Management’s Conclusion***

 

Management believes theremediation measures described under “Management’sPlanned Remediation Initiatives and Interim Measures” above willstrengthen the Company’s internal control over financial reporting andremediate the material weaknesses identified above. However, management has notyet implemented all of these measures and/or tested them.  Management believes that the interim measuresdescribed under “Management’s Planned Remediation Initiatives and InterimMeasures” above to ensure the reliability of financial reporting and thepreparation of the Company’s financial statements included in thisForm 10-Q and has discussed this with the Company’s Audit Committee.

 

The Company is committedto continuing to improve its internal control processes and will continue todiligently and vigorously review its disclosure controls and procedures and itsinternal control over financial reporting in order to ensure compliance withthe requirements of Section 404 of the Sarbanes-Oxley Act of 2002.However, any control system, regardless of how well designed, operated and evaluated,can provide only reasonable, not absolute, assurance that its objectives willbe met. As management continues to evaluate and work to improve the Company’sinternal control over financial reporting, it may determine to take additionalor alternate measures to address control deficiencies, and it may determine notto complete certain of the measures described under “Management’s Planned Remediation Initiatives and Interim Measures”above.

 

**Changesin Internal Control over Financial Reporting**

 

As described above underthe “Newly Identified Material Weakness in Internal Control over FinancialReporting” and “Management’s PlannedRemediation Initiatives and Interim Measures” sections, there werematerial changes to the Company’s internal control over financial reportingduring the first quarter of 2009 that materially affected, or are reasonablylikely to materially affect, the Company’s internal control over financialreporting.

 

**PART II—OTHERINFORMATION**

 

**ITEM 1—LEGALPROCEEDINGS**

 

For a description oflitigation and governmental investigations, see Note 10 to our CondensedConsolidated Financial Statements included under Part 1, Item 1 of thisQuarterly Report on Form 10-Q.

 

**ITEM 1A—RISKFACTORS**

 

For a description of risk factors that could materially affect ourbusiness, financial condition and future operating results, please consider therisk factors set forth in “Part I, Item 1A — Risk Factors” of our AnnualReport on Form 10-K for the fiscal year ended December 31, 2008.  Additional risks and uncertainties notcurrently known to us or that we currently deem to be immaterial also maymaterially and adversely affect our business, financial condition or futureoperating results.

 

**ITEM 2—UNREGISTEREDSALES OF EQUITY SECURITIES AND USE OF PROCEEDS**

 

None

 

**ITEM 3—DEFAULTSUPON SENIOR SECURITIES**

 

None

 

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**ITEM 4—SUBMISSIONOF MATTERS TO A VOTE OF SECURITY HOLDERS**

 

None

 

**ITEM 5—OTHERINFORMATION**

 

None

 

**ITEM 6—EXHIBITS**

 
| **Exhibit   Number** | ** ** | **EXHIBIT DESCRIPTION**                                                                                                                                                                                                                       |
|---------------------------|------------|----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
| 3.1                       |       | Thirteenth Amended and  Restated Certificate of Incorporation of UTStarcom, Inc., as amended  (incorporated by reference to Exhibit 3.1 of Current Report on  Form 8-K filed with the SEC on December 12, 2003)                |
| 3.2                       |       | Second Amended and  Restated Bylaws of UTStarcom, Inc., effective June 28, 2008  (incorporated by reference to Exhibit 3.1 of Current Report on  Form 8-K filed with the SEC on April 14, 2008)                           |
| 4.1                       |       | See exhibits 3.1 and  3.2 for provisions of the Certificate of Incorporation and Bylaws defining  the rights of holders of Common Stock.                                                                                                           |
| 4.2                       |       | Specimen Common Stock  Certificate (incorporated by reference to Exhibit 4.1 of Form S-1/A  filed with the SEC on February 7, 2000)                                                                                                 |
| 4.3                       |       | Third Amended and  Restated Registration Rights Agreement dated December 14, 1999  (incorporated by reference to Exhibit 4.2 of Form S-1 filed with  the SEC on December 20, 1999)                                             |
| 10.1*                     |       | UTStarcom, Inc.  Amended and Restated Vice President Change in Control and Involuntary  Termination Severance Pay Plan                                                                                                                        |
| 10.2*                     |       | UTStarcom, Inc.  Amended and Restated Executive Involuntary Termination Severance Pay Plan.                                                                                                                                                   |
| 10.3*                     |       | Letter Agreement dated  March 23, 2009 by and between the Company and Hong Liang Lu relating to temporary  salary reduction. (incorporated by reference to Exhibit 10.1 of  Form 8-K filed with the SEC on March 23, 2009).    |
| 10.4*                     |       | Letter Agreement dated  March 23, 2009 by and between the Company and Peter Blackmore relating  to temporary salary reduction. (incorporated by reference to  Exhibit 10.2 of Form 8-K filed with the SEC on March 23,  2009). |
| 31.1                      |       | Certification of the  Chief Executive Officer pursuant to Rule 13a-14(a) or  Rule 15d-14(a) promulgated under the Securities Exchange Act of  1934, as amended                                                                 |
| 31.2                      |       | Certification of the  Chief Financial Officer pursuant to Rule 13a-14(a) or  Rule 15d-14(a) promulgated under the Securities Exchange Act of  1934, as amended                                                                 |
| 32.1                      |       | Certifications of the  Chief Executive Officer and Chief Financial Officer pursuant to Section 906  of the Sarbanes-Oxley Act of 2002                                                                                                         |

 

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*              Management contract,plan or arrangement

 

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**SIGNATURES**

 

Pursuant to therequirements of the Securities Exchange Act of 1934, the registrant has dulycaused this report to be signed on its behalf by the undersigned thereunto dulyauthorized.

 
|                        |     | UTSTARCOM, INC. |
|------------------------|----------|----------------------|
|                   |     |                 |   |
| Date: May 8, 2009 |     | By:                  | /s/ VIRAJ J. PATEL |
|                   |     |                 | Viraj J. Patel |
| * *               | * * | * *             | *Interim Chief Financial Officer* |
| * *               | * * | * *             | *(Principal Financial Officer)* |

 

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